What can government do to help?

Hi, I’m Alex Nicholls, Professor of Social Entrepreneurship at the Said Business School, University of Oxford.

I work on a whole range of topics including today’s topics: social finance and impact investment.

Impact investment is the allocation of capital expecting a financial return, but also looking to generate positive and measurable social environmental impact. That’s the definition in the Global Impact Investing Network, which is a coalition of parties interested in developing this market. So there’s a couple of things to notice in that definition. One is the measurable component of the impact you’re trying to create, and the 2nd is its connection to financial return. So this places impact investing as a distinct field from social finance. Social finance, I think, is a much broader spectrum of capital allocated for different sorts of impact.

That would include grants, other foundation investments such as mission-related investing or program-related investing, development finance institution money and also environmental, social, and governance screened capital, that’s quite mainstream. Now, in terms of the history,

this second category: social finance goes back much longer than impact investing. And that’s because the allocation of money for social good is entwined with faith, it’s entwined with the tradition of tithing, for example, in the Protestant faith, but it’s also attached to Islamic finance and more recently, in the last 200 years it’s been associated with charitable giving. So in some senses, social finance is a much older category and something we have been doing as human beings for a long time and impact investing is a newer, more recent category that has its clear focus on financial return.

When we look at the emergence of the modern ideas around social finance and impact investment, we can see a number of drivers happening globally. First of all, we can see a change in investor preferences. So in terms of the owners of capital, people who allocate capital, over the last 30 years, perhaps a little bit longer, there has been an increasing awareness of social and environmental impact factors in investment. Now some of this came through socially responsible investing and associated with corporate social responsibility and so forth. More recently, it’s become known as environmental, social and governance investing. And interestingly, this is about half of all assets under management globally. Maybe $50 trillion of investment is now in some sort of screening.

But social finance and impact investing is a smaller subset of this. It’s much more focused on measurable outcomes in terms of impact.

Today governments have been very active in trying to develop the impact investing and social finance market, but it has to be said with varying degrees of success. Then you can, for example, do direct investment, so the government can take equity or debt positions in funds or issue bonds to grow the supply of capital in the market. It can use grants to support capacity building or to support research and development in the space. It can use indirect investment, where it coinvests with others or it produces the catalytic capital, as they’re called, models, the blended models where government may use its money to take a more risky position in an investment to encourage others to join.

It can use legislation, of course, so it can look at how it can use the law to encourage the growth of different parts of this market. For example, it can develop legal forms as we mentioned earlier, such as the Community Interest Company to help grow the legitimacy, if you will, on the demand side of capital for social enterprises. Also very importantly, it can release assets. So a very important part of the British policy agenda here was to create a bill which required the main banks in Britain to release assets on their balance sheets which had been dormant, which means had been accessed by nobody for 15 years or more.

And this piece of legislation helped create something called Big Society Capital in Britain, which essentially is a wholesale investment bank focused on social or impact investing, whose assets primarily come from dormant bank accounts in the banks. And this is a model that’s been looked at in several other countries, including Japan and South Korea as a way of just releasing what are otherwise dead assets, putting them to good impact use. Another lever is fiscal policy, so tax incentives. The most obvious of these is a carbon tax which has been implemented to some degree, at least in the European Union, but is also being looked at around the world.

In Britain there’s a tax incentive structure called Social Investment Tax Relief, which is designed to give an incentive, a direct tax incentive, for investors to come into this space. And finally, you can use regulation. So you could, for example, introduce regulation on banks to be more transparent about their sustainability or ESG performance and that’s actually happening, for example, in Malaysia when they looked at this, and in Singapore, not yet in Britain. You could also, perhaps most importantly, use regulation to force corporations and funds to disclose their impact performance.

I think when we look at the effectiveness of government policy in this area, first of all, we should say that there has been a lot of innovation. And I am sorry to keep mentioning the United Kingdom, but they have indeed been the global leader in this. And so what the UK did, in concert with others, over time, was to experiment across the different policy levers we discussed earlier. The Social Investment Tax Relief that I mentioned earlier, which seems very generous as a 30% tax relief for the investor, up to £1,000,000 a year, that can be structured in various ways, was designed to bring huge amounts of extra money into this space. It really hasn’t done that, it’s been quite disappointing.

So I think these were good experiments, but if we want to use a Social Investment Tax Relief or a mechanism by which we change the commissioning landscape, these clearly need further work and the world could well be innovating around these models better than Britain has managed. On the other hand, what can we say that has worked? Well, for better or worse, and this is a contested area, impact bonds have grown, so whilst there are many critiques of how Social Impact Bonds and other forms operate, for example, they have very high transaction costs in terms of the implementation and design of them.

Some people will say maybe 25% of the total budget for a SIB is the cost of putting it together, which is very expensive. Nevertheless, since 2010, we’ve seen a proliferation of this model around the world, it’s incredibly popular, something like 204 Social Impact Bonds are now up and running across the world, something like £460 million of new investment coming into outcomes. In the bigger scheme this is a small amount of money, but potentially it could have big impact given that almost all of these are trials, they’re simply experiments, they’re not designed to be at scale at this point.