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Social Impact Bonds Are Going Mainstream

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Now making waves in public finance circles are social impact bonds (SIBs). The bipartisan funding concept is a type of “Pay For Success” model where private investors invest capital and manage public projects, usually aimed at improving social outcomes for at-risk individuals, with the goal of reducing government spending in the long-term. Some social impact bonds seek to reduce the prison population through funding rehabilitation and employment programs for first-time offenders with the ultimate goal of reducing recidivism rates. Other SIBs seek to reduce the number of children in foster care. The catch is that private investors front all the costs and will be paid back a financial return by the government if and only if social outcomes are improved based on some standard measurement. The profit-motivating component comes from the fact that some of the savings from reduced costs for the government can be used to pay back the investor contingent upon their success. Now, Congress is considering the bipartisan Social Impact Bond Act, legislation that will enable the U.S. federal government to allocate $300 million to SIBs. A House Committee on Ways and Means hearing discussing the merits of social impact bonds led by the two co-sponsors of the bill, Rep. Todd Young (R-IN) and Rep. John Delaney (D-MD), was held last week.

Rep. Todd Young (R-IN), one of the co-sponsors of the bipartisan Social Impact Bond Act (Photo credit: TheStateHouseFile.com)

Key endorsements from economists, policy experts, and financiers

U.S. think tanks across the political spectrum, ranging from the Center For American Progress on the left to the American Enterprise Institute, have supported SIBs. Similarly, Harvard economist Larry Summers and hedge fund manager Bill Ackman have both supported SIBs and have invested their own capital in them. Major financial institutions like Goldman Sachs and Bank of America Merrill Lynch have also begun funding Social Impact Bonds.

Social impact bond mechanics

To cite an example to illustrate how a social impact bond works, the Adolescent Behavioral Learning Experience (ABLE) Program, the first social impact bond in the United States, was launched while I was at Goldman Sachs in partnership with the City of New York and Bloomberg Philanthropies, investing $10 million to reduce recidivism at Riker’s Island in New York City. The group partnered with MDRC, an intermediary who oversees the day-to-day implementation of the project and manages the non-profit service providers who deliver the intervention. Goldman Sachs receives its capital back only if the re-admission rate, as measured by total jail days avoided, is reduced by 10% or more, and should the reduction go beyond 11%, Goldman Sachs receives a financial return that’s magnitude is correlated with the reduction in the re-incarceration rate and associated savings to the government.

Rikers Island Social Impact Bond Payment Schedule

Source: Goldman Sachs

Bank of America Merrill Lynch has followed suit and has now launched its own Social Impact Bond, which is open to investors in its own private wealth channel.

Social impact bond intermediaries, who play an essential part in overseeing and managing the social impact bond project, are now proliferating, all competing for Social Impact Bond contracts through government launched Request For Proposals (RFPs). Social Finance, a non-porofit who structured and managed the first Social Impact Bond ever in the U.K., has become the pre-eminent Social Impact Bond intermediary worldwide. Third Sector Capital Partners, the Harvard Social Impact Bond Technical Assistance Lab, Private Capital For Public Good, and Finance For Good are other major players in the SIB intermediary space.

Social Impact Bond Mechanics Diagram

Source: Jie Bao

Proven success for social impact bonds in the U.K.

In September 2010, the first ever SIB was launched in the UK. Approximately £5 million was invested by private individuals and charities is being used to pay for interventions for offenders discharged after serving short prison sentences (less than 12 months) at HMP Peterborough, a prison in eastern England.

Years after the intervention was implemented, the results are now in, which speak very favorably to the efficacy of SIBs. Before the pilot, for every 100 prisoners released from Peterborough there were 159 reconviction events annually. Under the social impact bond intervention scheme, this figure has fallen to 141 — a significant fall of 11% in the recidivism rate for the affected group. That figure is relative to a 10% rise in the national U.K. recidivism rate over the same period (the RAND institute, who was commissioned to evaluate the success of the program, has an excellent detailed report on the pilot program).

With the positive results from Peterborough now in, the U.K. has taken worldwide leadership in further developing SIB programs nationally, with 15 SIB programs now in place across the country. Going beyond the U.K., 10 SIB programs have been announced across the U.S., Canada, Belgium, the Netherlands, Germany, and Australia, with many more being considered by local and state governments. The number of projects in the U.S. will expand considerably further if the Social Impact Bond Act is passed, granting $300 million to SIB projects.

Social Impact Bonds launched in the United Kingdom

(Photo Credit: Emma Tomkinson)

Social Impact Bonds (SIBs) launched outside the United Kingdom

(Photo Credit: Emma Tomkinson)

A market-oriented funding solution to government expenditures catches on

At a time when government finances worldwide are becoming stretched with high debt burdens and fiscal reforms aimed at reductions in government spending, there is growing interest in finding new ways to fund public services in a more cost effective manner. Social impact bonds are demonstrating that they can do exactly that.

Hypothetical Social Impact Bond Cost Diagram

Source: Social Finance US