The long haul

SIR RONALD COHEN is not a man to bet against lightly. He was a pioneer of the European venture-capital and private-equity industries before turning his attention to “impact investment”, a way of investing that targets both financial returns and measurable social benefits. He was involved in the birth of the world’s first social impact bond (SIB), a financial instrument that is using private capital to fund a prisoner-rehabilitation scheme in the English city of Peterborough, and which will repay investors through the government savings it enables. Sir Ronald was also the first chairman of Big Society Capital, a British financial intermediary designed to catalyse the market for impact investment.

His latest move is to present the concept of impact investment to the wider world, by chairing a G8 task force on the issue set up last year. In a report published on September 15th, it delivered its recommendations on how to push forward a market that is currently fairly small but is now starting to attract lots of interest. That attention stems from a confluence of factors: governments keen to be more efficient in their spending, rising investor interest in solving social problems while making money, and concrete examples—like SIBs, which have attracted $100m in investment to date—that people can latch on to.

The report (which was edited by Matthew Bishop, a writer at The Economist) contains some tub-thumping about the market’s potential. But anyone can throw around large numbers. The task of bringing new markets to life relies heavily on practicalities, and this is the report’s real focus.

As large-scale commissioners and funders of social programmes, governments are natural catalysts for impact investing—the report argues that there should be more “payment-for-outcomes” programmes like SIBs. It stresses the need for measurable outcomes from impact investments, which means putting a value on the costs saved by successful social interventions. The British government now releases figures on the unit costs of addressing various issues, from taking a child into social care to educating teenagers who have been excluded from mainstream schools. That enables investors to calculate an “internal rate of social return”. Other governments should follow suit, the report says.

It also argues for changes to rules that block money from flowing to social-sector organisations as easily as commercial ones. The report recommends, for example, that such outfits in America should be able to apply for small-business loans from their government. Fiduciary rules should be changed to enable pension-fund trustees to take the social outcomes of their investments into account, as well as purely financial returns. Tax breaks can also play their part in stimulating investment.

This might all seem like special pleading for a market that cannot stand on its own two feet. Impact investing is indeed a slippery concept, neither purely financial nor purely social. But in arguing for rule changes and government support, the report is treading a path that most red-blooded financial innovations have been down. Every financial product is affected by regulation, sometimes intentionally, sometimes not. Most successful markets have had a lawyer and a tax break acting as midwives.

The securitisation markets depend on laws that ensure the assets—mortgages and other loans that produce cash flows for investors—are “bankruptcy remote” so that a default by a mortgage originator, say, does not trap them in the bankruptcy process. The flow of bank credit to small businesses is subdued by capital charges that make it less lucrative for banks to lend to firms than against housing. Sir Ronald’s old stamping-ground of private equity was given a vital shot in the arm back in the 1970s, when the American government relaxed its “prudent man” rules that had prevented corporate pension funds from putting their money into riskier assets. If impact investing is to follow in the footsteps of other successful asset classes, reports like Sir Ronald's have a part to play.