Critics Question Impact of ‘Pay for Success’ Bonds

By Emilio Godoy Reprint | | Print | |En español

Social impact bonds are being studied for use in fighting poverty in Latin America. Credit: Mario Osava/IPS

MEXICO CITY, Oct 30 2013 (IPS) - Standing in contrast to government social protection programmes implemented over the past decade by progressive governments in Latin America and the Caribbean, a new initiative appeals to private investment and uses non-profit service providers.

But the outcomes-based “social impact bonds” (SIB), also known as “pay for success” or “social innovation financing”, have drawn criticism.

Social Finance, a UK-based organisation that works to inject market principles into social sector funding, describes SIBs as “a form of outcomes-based contract in which public sector commissioners commit to pay for significant improvement in social outcomes (such as a reduction in offending rates, or in the number of people being admitted to hospital) for a defined population.”

“There is a great deal of interest in developing these models, not only on the part of governments but also among development foundations and agencies,” Michael Eddy, one of the founders of Instiglio, told IPS. “We have seen this applied to many issues, but they have to be different in Latin America,” where social conditions are different, the U.S. economist said.

Instiglio, a non-profit social enterprise based in Boston, Massachusetts and the Colombian city of Medellín, designed an SIB in 2012 for Medellín aimed at reducing teen pregnancy.

New Zealand economist Ronnie Horesh was the first to advocate SIBs in a 1988 article on “Social Policy Bonds”, which he argued could be made tradeable.

The mechanism behind SIBs is that the government of the selected location identifies a social problem to be addressed and signs an agreement with an intermediary, which raises capital from banks, foundations or individuals and hires a non-profit service provider.

A neutral evaluator is hired to measure outcomes and settle disputes. If the project meets the agreed-on targets, the government repays investors with returns that generally range between six and 13 percent.

In other words, a third party bears the costs and performance risk of providing social services, and the government only pays based on measurable outcomes, from a portion of the projected cost savings.

But there are questions regarding the use of SIBs in Latin America, where social problems have already been tackled by means of hiring third parties.

“It’s a problem, because it doesn’t resolve the underlying issue,” Martha Juárez, an activist with the Consortium for Parliamentary Dialogue and Equity Oaxaca, which works for women’s rights in southern Mexico, told IPS. “There are no real savings and there are doubts about efficiency. That money should be used by public institutions to directly address problems.”

Similar criticism is voiced by Kyle McKay, a policy analyst with the General Assembly in the northeast U.S. state of Maryland, who tore apart the “myths” that SIBs represent new capital for social programmes, that they save the government money, that the government pays only for success, and that a focus on outcomes will encourage innovation in programmes, in his April article “Debunking the Myths Behind Social Impact Bond Speculation”.

“[T]hese endeavours in financial creativity may become expensive experiments that leave governments with the ultimate risk and providers with broken or contested contracts,” McKay argues in his study in the Stanford Social Innovation Review, published at Stanford University.

There are currently 32 SIBs in the design stage around the world, and another six in implementation in Britain, the United States and Australia, according to a map drawn up by Instiglio. The areas of focus include criminal justice, unemployment, health, homelessness, foster care, and at-risk youth.

The only SIB project in Latin America is the one being developed for Medellín.

SIBs worldwide. Credit: Courtesy of Instiglio>

Jane Newman, international director at Social Finance, told IPS that SIBs “need a robust outcome metric, a clearly defined target group, issue area a priority for both public sector and investors and evidence-based interventions.”

That organisation, which carries out social financing programmes in Britain and the United States, launched the world’s first SIB in 2010 in the UK, aimed at reducing prison recidivism among 3,000 short-term prisoners in the town of Peterborough in central England.

The project raised five million pounds from 17 investors. If the SIB achieves a drop in re-offending of 7.5 percent or more, investors will receive a return capped at a maximum of 13 percent per year over eight years. But if recidivism is not reduced, the investors will not receive any returns from the state.

The first evaluation will be carried out in 2014, and according to Newman, the preliminary data indicates that the target will be met.

In Latin America, the dilemma is not only a question of adapting to local issues, but also of risk management and budget questions.

“The issue of savings is very complicated,” admitted Eddy, who compared what a government would pay for the results achieved with the cost if the public administration itself had undertaken the programme, because in any case the cost of the programme must be lower than the cost of failing to resolve the problem.

Eddy mentioned surveys in Mexico and Paraguay for the design of SIBs. In Mexico, they may be introduced to address treatment of diseases like diabetes, or in maternal health, although there are no concrete plans yet.

He also said that in Colombia, the aim is to present the programme for reducing adolescent pregnancy to the national government.

“Specific regulations are needed with respect to issues like gender perspective, quality of service and respect for rights,” Juárez said.

In early 2014, the Multilateral Investment Fund, an arm of the Inter-American Development Bank, will propose to the board a programme to back the emission of SIBs, whether through financing or purchasing them.