Social Impact Bonds – A Creative Way To Pay For Performance

New York City Mayor Michael Bloomberg has frequently advocated for evaluating the success of government programs. In continuing his performance based efforts, New York is the first city in the nation to test social impact bonds as a way to pay for government programs.

local governments utilize bonds to pay for expensive items such as sewers, bridges and roads. Bonds raise upfront money from private sector investors, who are then paid back with interest from the tolls or charges a project generates. First developed in Britain in 2010, social impact bonds are a new way to encourage innovation in government and to improve government performance.

How Social Impact Bonds Work

Social impact bonds utilize private financing to provide performance based pay to social services providers. private investors provide the upfront capital and absorb most of the risk. The investors and bond-issuing organization have strong incentives to monitor and improve program performance; if performance targets are missed, investors will lose the money they invested.

The Center For American Progress has released a great report, that provides more information about Social Impact Bonds.

Social Impact Bonds Provide Three Main Benefits

1) Improved Performance and Lower Costs – Programs that fail to achieve results will not continue to receive funding year after year.

2) Adoption Of New Solutions – Government agencies, which might otherwise continue to fund the same old approaches they have funded in the past, would have an incentive to invest in promising new strategies. As the risk of wasting taxpayer dollars if a new approaches fail is transferred to the private sector.

3) More Rapid Learning About What Works – Ongoing evaluation of program impacts are provided accelerating the rate of learning about which approaches work and which do not.

Three Key Steps

1) Governments will need to develop or acquire the capacity to write effective pay-for-performance contracts.
2) A neutral authority to measure outcomes and resolve disputes, independent of both the government and the bond issuing organization, will need to be identified or created.
3) One or more social impact bond-issuing organizations will need to be created, with the capacity to raise capital from private investors, negotiate performance based contracts with the government, and hire and manage service providers.

First Test

In New York City Goldman Sachs is investing $10 million in a jail program, and will not profit unless the program succeeds in significantly reducing recidivism rates. Currently, nearly 50 percent of young men released from Rikers reoffend within a year. The Goldman Sachs funding will pay for a new four-year program to reduce the rate at which adolescent men incarcerated at Rikers Island reoffend after their release.

The Goldman money will be used to pay MDRC, a social services provider, to design and oversee the program. If the program reduces recidivism by 10 percent, Goldman will be repaid the full $9.6 million; if recidivism drops more, Goldman could make as much as $2.1 million in profit; if recidivism does not drop by at least 10 percent, Goldman will lose as much as $2.4 million.

In Massachusetts, Jay Gonzalez, the secretary of administration and finance, a proponent of social impact bonds sums it up nicely with his statement: “We’ve got to change from the idea of, We just pay for stuff and hopefully get the results. “The beauty of this is if they perform to get the results, then we pay. If they don’t, we don’t pay.”

Social Impact Bonds could have a major impact on how government funds, contracts and measures the success of social services programs. What do you think about utilizing social impact bonds as a way to pay for government programs?

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