Social Impact Bonds in the US: A Game-Changer in a Time of Tight Budgets?

The second decade of the 21st century is a time of both crisis and opportunity in the United States. We face severe social and economic distress and depleted government budgets that cannot meet growing demands for basic safety-net services, much less address the root causes of poverty, crime, and other disabling economic and social conditions. 

While social entrepreneurs have developed effective solutions to many pervasive challenges, the government cannot afford investing in even proven nonprofit programs. The reality is that we may be unable to take important steps forward in tackling these problems without the addition of private investment capital.

To take on this challenge, the Commonwealth of Massachusetts recently launched an ambitious effort to explore how private investment capital can be leveraged to fund effective social programs. If this finance mechanism succeeds, it has the potential to revolutionize the relationship among the private sector, the nonprofit sector and government to the benefit of all. 

This effort began earlier this year on May 6, 2011 when the Commonwealth issued a “Request for Information” (RFI) that solicits ideas from “entrepreneurs from the nonprofit and private sectors to increase the efficiency of government-funded service delivery, reduce costs to taxpayers, and accelerate innovation in ameliorating social problems.” In particular, the RFI is gauging interest in a new financing mechanism known as a “social impact bond” (SIB).

Ben Franklin’s adage that “an ounce of prevention is worth a pound of cure” provides the motivation for SIBs, which raise private investment capital to pay for successful intervention programs delivered by nonprofit service providers. This approach lessens the need for more expensive and less effective government remediation efforts downstream.

The government pays investors their principal and a rate of return, but only if, when, and to the extent that the programs achieve predefined metrics. If agreed-upon improvements are not achieved, the investors lose their capital. 

Activities that generate social progress can also be monetized into an investable asset. These could include preventive interventions that produce better social outcomes (such as supportive housing) and deter costlier crisis responses (repeated emergency room visits, hospital admissions, incarceration, and use of emergency shelters). Turning these activities into investable assets will help attract private capital and accelerate its deployment to the most effective nonprofits organizations. 

Everyone benefits under a successful SIB program. The public sector wins by seeing better results for less upfront investment. The investors win by putting capital to work while achieving robust financial returns and meaningful social impact. The nonprofit service providers win by achieving stability and predictability in their revenue model which frees them up to do what they do best—deliver critical services to populations in need. Disadvantaged individuals and their communities benefit from both increased and improved social goods and services. 

Right now, there are proven preventive programs in areas such as juvenile justice, prisoner reentry, chronic homelessness, and elder care that aren’t widely available due to insufficient governmental or philanthropic funding. 

Ironically, expanding these programs would not only improve lives, but also save taxpayers money. For example, extensive research has shown that juvenile detention alternatives designed to keep young offenders in school and at home cost less than incarceration and greatly improve their chances for successful lives. Elders and others with chronic illnesses can receive more effective home- and community-based healthcare and avoid or delay going into costly nursing homes and other expensive institutional facilities. 

As a new “third way” to fund positive social change, SIBs have begun to generate substantial interest here and abroad. The first SIB was launched last September by our U.K. sister organization, Social Finance, Ltd., and the British Ministry of Justice, with the goal of reducing prisoner recidivism. President Obama’s 2012 budget proposes to invest $100 million to pilot SIBs in the U.S. across seven agencies.

By unlocking new sources of capital, SIBs also can contribute to the development of a more accountable, evidence-based social sector. Even the best social enterprises spend far too much time fundraising, and reliance on philanthropy and shrinking government contracts confine them to a “nonprofit starvation cycle” that keeps them from scaling and helping many more people in need. 

High-performing nonprofits that can win over private investors now have the chance to access the capital markets and raise stable and predictable funding. By shifting financial risk to investors, nonprofits can increase staffing and open new sites, and governments can gain access to effective prevention programs that they can’t afford up front.   

SIBs are not only about attracting new sources of funding, but also about involving new ways of working together across the public, private, and nonprofit sectors, across governmental silos, to address pervasive economic and social problems. The Massachusetts RFI is an extremely important first step in bringing innovative social financing and forging a new form of cross-sector collaboration to drive systemic change.

 By Tracy Palandjian,  CEO of Social Finance US www.socialfinanceus.org

This article originally appeared on www.spotlightonpoverty.org 

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