What Are the Risks of Social Impact Bonds?

How much should we trust private corporations to solve public problems? That’s the question cash-strapped state and local governments are asking as they experiment with private partnerships to fill the funding gaps that tax dollars can’t. From contracting out sanitation services, to privately-owned public spaces, private dollars infiltrate many of the programs and places we take for granted.

The latest iteration of this trend is Pay for Success or Social Impact Bonds. In New York, Governor Cuomo recently announced the launch of “Pay for Success,” a $30 million social impact bond initiative to support various social service programs in New York State including early childhood development and child welfare programs, healthcare and public safety.

Social Impact Bonds originated in the UK, but are beginning to attract attention in the U.S., including in New York, Massachusetts, and Utah. In 2012, Goldman Sachs and Mayor Bloomberg announced a $9.6 million loan to pay for a new four-year program aiming to reduce the recidivism rate of adolescent men upon their release from Rikers Island. The money is being used to pay MDRC, the social service provider, which is designing and overseeing the program. If recidivism rates are reduced by 10% by 2016, Goldman Sachs is repaid by the full amount. If the targets are exceeded, Goldman Sachs gets an extra return on their investment.

Often social impact bond programs are spurred by a private corporation, which in turn finds a program to invest in. For Cuomo’s initiative, it’s up to non-profit organizations in each of the focus areas to apply to be intermediaries between the government and the investors, and will be responsible for both managing the programs and attracting the private investment. Cuomo claims that "this model will transform how our state provides its social service programs to better serve New Yorkers in the areas of public safety, healthcare, and early childhood development and child welfare, and save taxpayers money in the long run."

While the state is not required to repay the investor if the programs fail, it’s the return on investment if the programs exceed their original goals, and the opportunity for large corporations to profit off of social services that makes many experts uneasy. Plus in Cuomo's version, in addition to designing the programs, it's up to non-profits to both propose programs and attract the funding to implement them, before private investors sign on.  

The speed at which these bonds are catching on is also troubling. Goldman Sachs at least is confortable investing in multiple social impact bonds before their first project is even evaluated. Less than a year after announcing the New York City partnership, the company, in partnership with Chicago investor J.B. Pritzker, is lending $4.6 million to an early childhood education program in Utah. As Mark Rosenman, a professor emeritus at Union Institute and University in Cincinnati, told the New York Times, “I think it’s distressing the degree to which a new industry has been built around social impact bonds before it’s ever been proven viable.”  

Then there's the concern that always accompanies private investment in public services, namely, will the need to profit effect the quality and accessibility of the proposed services? Corporations have experimented with philanthropy for years, but usually they expect to be paid in good publicity. What happens when the focus becomes investments and not simply donations?

Let’s hope that Cuomo’s Pay for Success Initiative will put the needs of non-profits and the communities they serve, over those of the investors.