2013-05-29

Co.Exist

Are Social Impact Bonds The Future Of International Development?

The financial mechanism that attaches a possible return to positive social outcomes is starting to take off in the United States. Will it work for non-wealthy countries? Some nonprofits are hoping to find out.

In the last few years, governments and nonprofits have become increasingly interested in the idea of "social impact bonds" (SIBs): private sector investments in social outcomes like reducing homelessness or cutting prison re-offending rates. And it’s easy to see why. Nonprofits have long dreamed of scaling to a level where they can make more of a difference (a Gates Foundation-type difference, you might say). And governments--well, since the recession, governments have rarely been shorter on funds.

SIBs are more than just a new source of cash, though. They also place risk with investors, rather than nonprofits or governments. Investors only get paid a return, if the outcome materializes--say, if the homeless rate decreases a certain level. And that potentially leaves more room for experimentation; if taxpayer money isn’t on the line, governments can afford to be innovative.

The first SIB was agreed to in the U.K. in 2010, and since then several states, cities and governments have either set up their own, or started considering them. Massachusetts has two SIBs, worth a total of $50 million. California just passed a law to introduce them. And New York City has one for Rikers Island prison, with Goldman Sachs and Bloomberg Philanthropies.

Goldman has invested has invested $9.6 million to reduce the rate at which young males reoffend. If the rate falls by 10%, the bank--which has most of its loan guaranteed by Bloomberg--will recoup its money. If it drops by more than 10%, it could make up to $2.1 million; less than 10%, and it could lose money. Goldman is working through a nonprofit to actually deliver the program, and the idea is that its profit, if there is one, would come from savings to the city. In theory, that amount should be a lot less than the costs of recidivism, which runs to many millions every year.

It’s much too early to say whether SIBs will actually work. The Rikers Island contract won’t be resolved until 2016, for instance. But people in the field are already exploring the possibility of taking the model further--for example, for international development.

Instiglio, which has offices here and in Colombia, is one of the first organizations orchestrating SIBs for projects overseas. Co-founder Mike Belinsky calls the nonprofit a "market builder": a group that links up high net-worth individuals with projects, and evaluates local "service providers" (other nonprofits, probably) to carry them out. "We design the actual program and performance management system," he says, "and also work with investors, and educate them about what this program is like. Then we facilitate the program, and do some handholding."

"We’re saying that [social impact bonds] are an interesting instrument being developed in high-income countries, and that this could be adapted to developing countries," he adds. Before Instiglio, Belinsky was involved in drawing up the Massachusetts SIBs.

Instiglio has announced two projects so far. One, in the city of Medellin, aims to cut the rate of pregnancy among girls aged 10 to 19. Instiglio is advising on legal, financial and practical aspects, such as finding groups to work with kids while they are still in school. Belinsky says potential returns for investors are still being negotiated, but previous SIBs have paid 8% to 15%.

Instiglio is also working with a nonprofit in Rajasthan, India. The SIB will aim to reduce the rate at which adolescent girls drop out of school.

Belinsky, who was recently nominated for an Echoing Green fellowship with his colleague Avnish Gungadurdoss, believes that SIBs could eventually become an asset class like 401Ks. As well as investing in your retirement account, and stock picks, we might have an SIB on the side for our favorite social cause, he says. But it might be a while before that happens. For one thing, SIBs have to prove that they work and don’t present new sets of problems.

Some critics have said that SIBs could skew programs, invite litigation as parties argue over what "success" is, and that the costs associated with setting up SIBs (say, to arrange financing) could outrun the benefits. More morally, they wonder whether it’s really right for investment banks to be placing bets on recidivism rates.

Belinsky concedes that the early SIBs are taking a long time to draw up, that the model won’t work for many types of programs, and that only time will tell if SIBs bring in the hoped-for benefits. But, still, he thinks it’s an idea worth trying: there’s too much potential upside.

"The way we look at it, this is a way of giving nonprofits access to capital. And it [allows] governments to take a serious look at their programs, and see which ones work. They can increase funding for those, because they pay at the end, and then only if it works."

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