How the world’s first Social Impact Bond drained public resources, and why the market model fails forward

In today’s blog, Robert Ogman argues that success stories on the social investment market are hiding inconvenient truths, and require honest rethink about such risky and expensive policy experiments

In 2009, when governments took on enormous debts to rescue the crumbling financial sector, they sought to address the fiscal crisis by slashing funding to the public sector in the turn to austerity. The conservatives called for a “Big Society” to fill the gap for scaled-back social protections, but quickly realising that nothing comes for free, sought to link the resource-weak social sector to capital markets ‘awash with liquidity’ (IMF), through the Cabinet Office’s new “social investment bank”, Big Society Capital. Private surpluses, could be ‘mobilised’ to offset government funding gaps, through loans to civil society groups coping with deepening social crises. In the ‘age of austerity’ (Cameron), the Social Investment Market is a magic bullet: It should offset fiscal problems by securing new pools of capital, address social problems by expanding the social sector, and make capitalism responsible by directing investors towards products with societal benefit. So were the praises sung by the father of venture capitalism, Sir Ronald Cohen, now involved in Big Society Capital, the Social Finance organization, and a host of ‘impact’-oriented initiatives.

Central to this broad policy initiative is the Social Impact Bond, a mechanism to address three interlinked problems, namely, to create ‘inclusive growth’ and ‘shared value’ as a new economic model, to offset public fiscal deficits with private investment, and to ‘solve society’s most intractable social problems’ by expanding preventative services. This experiment was tested in Peterborough as the world’s first SIB, bringing together market, government, and societal actors seeking to ‘break the cycle of reincarceration’. Investors provided £5 million as working capital for organisations, who adapted an anti-recidivism programme by St. Giles Trust , to reduce reconvictions of people released from short-term sentences at the local prison. If it reduced reconviction by 7.5% compared to a control group, the Ministry of Justice anticipated related reductions in its budget. It hoped that lower court, police, prison, and other criminal justice expenses could amount to up to £90m. If the project succeeds, a portion of these savings would be used to repay investors plus dividend. If it missed its mark, investors risked losing their capital. The idea was that this would “transfer the [financial] risk to the investors”, as Social Finance writes.

A central pillar of SIBs is the fiscal argument. As project manager of the Peterborough project and major driver of U.K. SIBs, Social Finance describes as a “precondition of a successful [SIB]”, that the savings are larger than the service intervention costs. In a time of fiscal constraint, the SIBs were meant to ‘do more with less’, downsizing prisons, and in doing so, ‘paying for themselves’. They were sold to the electorate under the mantra of presenting “no risk to the taxpayer”. In fact, without such fiscal pressures, one might ask whether this policy would have gotten off the ground at all, let alone accelerate an international diffusion of nearly 90 projects in 19 countries in the value of £300, according to Social Finance.

The final results for the Peterborough project came in this week achieving a 9% reduction in recidivism among its 2,000 person target group. In their statement, Social Finance praised the reductions in reoffending and the repayment of investors. The Ministry of Justice played the same tune and Gordon Brown praised the project in the same manner. Yet, as advocates were patting themselves on the backs, they were also moving the goal posts, with negative implications for the public. The new storyline neglected any reference to fiscal issues. This covered up the inconvenient truth that the Peterborough project would not pay for itself, as Rand wrote in a report for the Ministry of Justice. Absent savings, investors would effectually be paid through new expenditure, from tax payer dollars in the Ministry of Justice’s budget, and public money from the Big Lottery Fund, who rescued the project with a multi-million pound subsidy. While the project was supposed to allow government to ‘mobilise private capital for public good’, the Peterborough experiment appears to inverse this, compelling the government to “fill the funding gap for UK social impact bonds”, when they fail to create expected savings. This fiasco is just the latest example of a blunders associated with the uncritical approach to market-style governance.

While mistakes are common in policy innovations, there appears little concern to reassess the project. Instead, new efforts are being made to shore up the model despite its problems. Anticipating future failures, the Cabinet Office and the Big Lottery Fund conjured up £60 million of special “outcome funds” to subsidise investor returns when SIBs fail to create anticipated efficiency gains.

But now one really has to ask what the fiscal logic is for these projects. If SIBs were partially designed to help government out of a fiscal jam, now they’re placing more pressure on the budget, simply to pay investor returns on projects they’ve contributed no social value to. One wonders why the government should continue a project meant to reduce fiscal pressure, when it is now increasing expenditure with no added value?

So long as the government continues to cut public resources, and refuses to draw in revenue through taxation of concentrated private wealth, we’ll likely see more of such unhelpful market governance schemes, with attractive language but poor outcomes.

While many supporters of SIBs view them sympathetically, they do so because they would like to see more investment in social protections, more market actor involvement in societally beneficial endeavors, and more private contribution to the rebalancing of public finances. But the Peterborough problems show that joining market governance to ‘public responsibility’ are a weak compromise, they can inhibit these goals, and may produce contradictory results. The shortcomings of the Peterborough pilot require more than a tinkering with existing market governance models, and instead an honest rethinking of broader policy directions, asking how the economy may be more adequately ‘re-embedded’ in structures of public accountability.

Robert Ogman is a member of CURA and a doctoral researcher at the Department of Politics and Public Policy at De Montfort University.

Participatory Budgeting: Shining light on the well manicured hands on the public purse.

Jez Hall from the Participatory Budgeting Network argues that the costs are spiralling of a public service culture that is focussed on acute interventions, increasingly relies on private delivery and is driven by the interests of professionals. He argues that participatory budgeting is a tool that can deliver fiscal responsibility and make services more focussed around the needs of citizens.

Advocates for more citizen participation usually discuss Participatory Budgeting, (and similar ideas for direct democracy) as a democratic enhancement – something about fixing democracy, trusting in politics or getting involved. It is as though involvement is the aim.

But a too often undervalued dimension is the cost benefit of participation. We live in expensive bureaucratic systems, where the recurring costs of services make no sense to ordinary people. I believe we need to raise the debate when looking at the different public service choices. Because, from observing Participatory Budgeting  (PB) in action, when given a choice, and good information, and a chance to deliberate ordinary citizens back prevention over an often ridiculous status quo that wastes money and blights lives by focussing on the wrong end of the system. When there is pressure on public budgets it matters who has a say, and who sets the agenda.

Here’s an interesting set of statistics:

It costs £65,000 to imprison a person in this country once police, court costs and all the other steps are taken into account. After that it costs a further £40,000 for each year they spend incarcerated.” £100,000 for a one year prison sentence. Once you have been into prison you are pretty likely to return. Or suffer limited employment opportunities for your whole life, and you and your family more likely to become dependent on welfare.

Private sector outsourced care for at risk young people can be much expensive and the outcomes often little better. “There are differing views amongst commissioners about the relative costs of their own children’s homes provision to those of the external providers. The DfE Children’s Homes data pack (December 2014) concluded that average unit costs are … around £2,900 per week”. A 2013 survey indicated the most common cost of high intensity outsourced care was £3,000 per week, rising in rare cases to £6,000 per week. That equates to between £150,000 to £300,000 per year.

Then, at the other end of the spectrum, it costs about £5,000 per year to provide a school place in a city like Manchester. So one year of a young person attending school costs about the same as spending 2 weeks in prison, or maybe just a week in intensive residential care.

In health the story is much the same. The unit cost of attending an A&E department is far higher than seeing a GP or community based health worker. This statistic is out of date but still relevant. In 2010 to walk through the door of an A+E department for a brief consultation cost over £125. That’s before receiving any treatment. Yet I, and probably most citizens of the UK, used to free at the point of delivery healthcare, are horrified by the prospect of paying £25 to see a GP, as proposed by the Kings Fund in a report in 2014. An influential think-tank has recommended the Government considers charging patients up to £25 for a GP appointment, becoming the latest in a series of recent reports mooting the controversial move.”

Best keep people out of prison, hospital and children’s homes then. That requires prevention, something that can only be effectively delivered outside these expensive institutions and within communities. Neighbourliness, good employment, education, and stable families matter a lot, but sometimes it takes professional support to prevent the most at risk going off the rails.

Now, I wonder how much employing a trained youth worker costs? The answer is around £21,000 a year – rising to about £35k max – there will be some on-costs on that basic figure, but it gives us a perspective.

And a prison governor earns upward of £180,000 for a difficult high security prison, but more normally “salaries for qualified operational managers start at £32,000 a year, while more senior managers (including governors) can earn around £60,000 pa. It’s a professional salary, but hardly ‘riches beyond the dreams of avarice’… Of course, there are other benefits, including a civil service pension.” A judge earns £130,000 or so. And judges are most unhappy about it. Almost a third of judges, 31%, said they would consider leaving early in the next five years. The proportion was even higher for high court and appeal court judges. Declines in pay and pensions were the main complaints. Nearly four-fifths said incomes now and after retirement do not adequately reflect the work they do and that they had suffered a loss of net earnings over the past five years.”

It’s tough looking down on society from the top. If the people involved in commissioning services are the people already managing, running or benefiting, there is an obvious bias to backing their own professional approach. That isn’t corruption. It’s human nature. Yet, however well intentioned and informed they may be, it is a capturing of the system by those already benefiting most from it. As a leading public health manager for a big city once said to me “prisons exist to pay for prison staff pensions, and hospitals to pay for consultants golf club memberships”.

This might be a little unfair. But if you care, and professionals in the public sector do care, without a robust process of challenge there is no strong incentive to reduce one’s own role. We have become wedded to expensive sticking plasters that may contain but don’t prevent problems. This was clearly identified in a 2011 report on the future of Scottish public services that raised the problem of ‘producer dominance’. Basically public sector commissioners, left to their own devices, prioritise existing approaches, and de-prioritise prevention. Government remains the dominant architect and provider of public services. This often results in ‘top-down’, producer- and institution-focussed approaches where the interests of organisations and professional groups come before those of the public.”

Maybe PB can shine a light on that problem – and save taxpayers a bit of money. Putting one less person in prison for a year could pay for at least 3 youth work posts – and who knows how many hundreds of hours of volunteer time at a community based youth club. Each youth worker, properly supported, could prevent a young person being abused, or going to jail. If they stopped just one conviction or referral per year each, then prevention is still a great investment.

Of course there may be lots of solutions, like funding voluntary and community sector providers. Though we need to be careful. The lesson of the Kids Company is that these decisions can’t just be left to politicians either. Despite lacking robust evidence about the quality of the charity’s outcomes, value for money or governance, Kids Company attracted high profile support from senior Ministers throughout successive Governments, and tens of millions of pounds of public money have been handed to the charity over the course of its existence.[1]

Whilst I believe in high quality, preventative public spending, that doesn’t mean the money can’t go outside the public sector. But when it does, either to ‘not for profits’, or private sector provision citizens need to be aware of the cost and benefit of that choice. If they were, I doubt that private financing would be as widespread as it is, given its costly nature.

Participation is not just about validating pre-determined choices of so called experts. It is about deliberating between options, suggesting new approaches and making more informed choices. So let’s have a better approach than tick box consultations. Let’s shine a light on some of these costs. Open up how we make these decisions and let the people decide?

Jez Hall is a founding member of Shared Futures. Jez helped found the PB Unit in 2006 and has since then remained a committed advocate of Participatory Budgeting.

Regional Savings Banks and the Financial Crisis in Spain

The sovereign debt crisis that put the Spanish socialist (PSOE) government under pressure to begin an austerity programme in May 2010  started two years earlier in a crisis of the financial system.  Whilst central government initially dismissed it as a transient banking liquidity crisis derived from the global interbank lending drought, it soon proved to be a crisis of solvency.  And it was largely cooked in the country’s not-for-profit regional financial institutions, the savings banks. In a pyrrhic victory, they almost overtook commercial banks –the dominant element of national capital— in being the lynchpin of the ‘Spanish model’, a macro-economic system based on deepening existing specializations in tourism, property development and construction as ‘competitive advantages’ adapted to the global economy.

Forty-three out of forty-five savings banks, which had roughly made up half of the Spanish banking system, disappeared. The depth of their solvency problems, the policies implemented by central governments and the deterioration of the economy did away with them. After a complex programme of mergers, savings banks were transformed into commercial banks in 2012. Many were later nationalized and sold cheap to centre banks—effectively reinforcing centripetal flows of capital and resorting to strategies of accumulation by dispossession.

Many savings banks had evolved from being not-for-profit, regional and public-administration-funding into de-territorialising and financialising institutions competing for a larger share of the market. Savings banks were mutual financial institutions set up via foundational funds and managed by boards of stakeholders –founders, local authorities, savers and employees. With their duties to foster savings, develop the economy of their locality and carry out social works, they became anchor institutions in their cities/regions of origin. But since the liberalisation of the Spanish economy, and the deepening of financial market integration during the 1990s, they underwent a prolonged weakening of their regulatory boundaries –‘freeing’ their banking activities and undoing their territorial-boundedness—which encouraged many (particularly the riskier ones with less liquidity) to participate in securitization and high leverage practices (via money-markets) characteristic of financial centres.

The framework established by the Maastricht Treaty and monetary union brought about strong purchasing power that saw major Spanish commercial banks expanding internationally. And it also brought a lowering of (the very high) interest rates and a price war at home. In Catalonia this was markedly felt when the largest of its savings banks (and largest in the EU) La Caixa switched its rates to the Euribor in 2004. La Caixa had a strong pull effect on other savings banks and, in a more competitive market, they saw profit margins squeezed and found they needed to increase their investment volume (for which deposits were now not enough) just to maintain their levels of profit.

Securitization and wholesale markets provided savings banks with a massive volume of resources. The Land Act of 1998 (which made vast amounts of land available for construction) together with changes to securitization laws; lower interest rates; higher investment needs and the traditional pattern of channelling resources to sheltered sectors of the economy by Spanish banks (such as  construction) helped build an ‘urban development tsunami’. This tsunami was built with the mass influx of EU capitals invested in Spanish mortgage-backed securities and other property assets of which savings banks were keen originators.

This liquidity surge was used in lending investments that fed the bubble. Credit to finance construction reached 60% of total credit. Lending practices worsened as savings banks bought construction companies and began selling flats and mortgages via real estate agents working on commission for them. They expanded outside their own city-regions losing their clients’ trust and information advantage characteristic of their proximity banking. Moreover, lending policies rooted in savings banks’ traditional function of providing financial inclusion became predatory when, in their competition for new clients, savings banks targeted the influx of low-income urban migrant communities, as happened in Barcelona. So-called ‘dinghy’ loans –the Catalan version of US ninja loans—became Spain’s own toxic assets.

Regional financial spaces in Spain were connected to EU and global financial markets. Without this link it is difficult to understand how the housing bubble and the crisis began and unfolded.  The financial crisis soon became a general economic crisis triggering mass unemployment and shortage of credit. But, whilst the banking system was restructured and propped up by centre government and an EU/IMF bailout in 2012 (which came with strict austerity conditionality) the weight of the crisis burden was shifted onto the population.

The distribution of the initial impact of the financial debacle was uneven. Cities were badly affected but in some regions there was a marked urban-rural continuum.  Thus, the metropolitan area of Barcelona was ground zero for evictions with 59.030 cases (trailed only by Madrid with 52.276 cases). In the north-western region of Galicia the mis-selling of preference shares to unwitting savers was widespread. Regions and local authorities account for about 50% of public spending and they are responsible for delivery of most services. But real estate taxation is the architrave of their fiscal system (together with cash transfers). Without recourse to one of their traditional sources of financing, their fiscal woes  worsened following the bust and budget cuts and many had to resort eventually to the strict conditionality of the regional liquidity mechanism set up by central government to face their debt. Many also had to pick up the tab for the spending formerly financed via social works.

An archipelago of citizen interventions scattered throughout Spain demonstrated the depth of popular discontent and made up for the neglect of public authorities in dealing with the social wreckage. Citizen-led groups emerged to advocate for the interests of the masses of people in precarious housing situations as well as for those affected by the collapse of preference shares in financial institutions such as BANKIA. These groups pushed local authorities to achieve solutions. These ‘civic platforms’ also fed into broader social movements such as the indignados, and the formation of the new political party Podemos.

So far, they have already had a political impact in the victory of citizen political platforms in the 2014 municipal elections in Madrid and Barcelona, among other urban spaces. Newcomer parties Ciudadanos (centre-right) and Podemos (left) are widely expected to end Spain’s bipartisan political system in the coming general elections on the 20th of December. But it remains to be seen what they will do to transform the financial system. So far, whilst Podemos proposes an ambitious programme of democratization of the economy (including public banking, non-recourse mortgages and managed personal bankruptcy, financial transparency and taxation), Ciudadanos barely mentions finance in its economic measures.

Dr Paula Portas-Perez is visiting research fellow at the department of politics and international relations at Cardiff University. This post is based on Paula’s article ‘Plain vanilla banking? The financialization of Spanish regional savings banks’, which is forthcoming in ‘Regional Science, Regional Studies’.

The Autumn Spending Review: A Political but not an Economic Fix?

After the Government’s spending review on 25th November, I was struck by how experienced political commentators were fumbling to get a grip on the detail of its plans and forecasts. What lies beneath the headlines and soundbytes will become clear with time, but some general contours and contradictions are already emerging from the Chancellor’s “smoke and mirrors”.

The headlines will say that George Osborne reversed controversial proposals to cut tax credits – a U-turn for which shadow Chancellor John McDonnell quickly claimed credit for the Labour Party. But, they have not been reversed for people on the new Universal Credit system – a reform critics see as a serious benefits cut in itself. Moreover, tax credits will remain frozen and diminish in value. Osborne devolved some control over elements of local government finance, but with multiple strings attached. Council tax rises are permissible, but must be ring-fenced to adult care. Business rate rises are permissible, and local authorities will retain the returns. However, additional rate levies will depend on the consent of local business elites. Councils will have the same to spend in “cash terms” in 2020 as they do now. This announcement foreshadows major public service reductions, but on a scale impossible to anticipate without knowing other volatile variables in advance. The government, and councils, are investing hope in the integration of health and adult social care as a way of delivering austerity without outright retrenchment. Yet according to Lord Porter, Chair of the Local Government Association, a new round of cuts is likely to push councils to the edge of collapse. Osborne has spoken frequently of Britain moving from high welfare-high tax to a high wage-low welfare economy, predicated on increases to the minimum wage. Yet, an hourly living wage is only a real living wage for people working enough hours in the week to surpass income poverty thresholds. It will not be a living wage for those on part-time or zero hours contracts – or those in precarious self-employment.

Whatever the merits and drawbacks of specific cuts and measures, the holy grail of Osborne’s Chancellorship is delivering a budget surplus in 2020. The Office for Budget Responsibility suggested he will be boosted by an unexpected increase in tax receipts through the middle of this parliament, a claim immediately qualified by Chairman Robert Chote. Even if he enjoys good fortune with the tax receipt numbers, Osborne faces formidable barriers. Responding to the spending review, John McDonnell was quick to remind us of the Chancellor’s poor forecasting record. In 2010, the government said it would eliminate the budget deficit by 2015. Now, we are told this will occur in 2020. With the support of the Labour Party, the media and much of the public, the last government set a welfare-spending cap. Today, we were told the cap has been breached and will not be met until 2019. Ultimately, all depends on forecasts for sustained GDP growth at rates of 2.3 or 2.4% for each of the next five years. But such a stable pattern would be exceptional. In the best-case scenario, GDP growth will fluctuate in an upward direction. In the worst-case scenario, underlying weaknesses in the economic recovery will soon trigger another recession.

In short, it is plausible that before long, the government will have to revise its forecasts again and come back for more. If a budget surplus remains the primary goal of British economic policy, further attrition of the welfare state and corrosion of the public realm is the price we will be asked to pay. Even then, the goal could be elusive.

Jonathan Davies – Director, Centre for Urban Research on Austerity