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Social Impact Bonds: Pay-for-Success Programs Could Help OMB with Grant Guidance

Sylvia Mathews Burwell

SOURCE: AP/Carolyn Kaster

Sylvia Mathews Burwell, the new director of the Office of Management and Budget, testifies on Capitol Hill in Washington, Wednesday, April 10, 2013, before the Senate Budget Committee hearing on her nomination.

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Calling for an end to government waste is common rhetoric in Washington, but it is rarely followed by real conversation on how to better direct funds to achieve real results. Recently, however, the Obama administration has taken new steps to reverse that trend and find smart ways to manage government programs.

In February the Obama administration issued a proposal that, if adopted, would improve the management and oversight of the more than $600 billion annually awarded by the federal government in grants and other financial-assistance programs.

Certainly, “Proposed Uniform Guidance: Cost Principles, Audit, and Administrative Requirements for Federal Awards” isn’t exactly a page-turner. The proposed changes would harmonize eight different sets of Office of Management and Budget grant guidance into one master document, simplify some reporting requirements for grantees, and refocus auditing efforts on preventing waste, fraud, and abuse, among other changes.

The Office of Management and Budget shouldn’t stop there, though. This is a rare opportunity to significantly advance Pay for Success, a key Obama administration initiative, throughout the federal government. “Pay for Success” is the administration’s umbrella term for a new breed of financing tools for social programs in which the emphasis is placed on paying for measurable outcomes rather than for inputs or activities. This includes Social Impact Bonds, an innovative new public-private approach to paying for social programs in which government agencies pay only for improved social outcomes after the outcomes have been achieved and verified.

Pay for Success and Social Impact Bonds together represent a fundamental departure from how programs are currently monitored. Including Pay for Success in this new grant guidance is essential to the process of moving government grant making away from obsessively tracking inputs and toward monitoring—and rewarding—positive outcomes. Pay for Success allows the government to set the “outcome,” or the goal that it wants to see achieved, rather than strictly defining what activities it will fund and hoping that those activities lead to improved results.

The way Social Impact Bonds work is relatively straightforward. A government agency or agencies defines a specific, measurable social outcome they want achieved in a given population over a certain period of time, such as reducing the number of asthma-related emergencies in low-income children by 15 percent over five years in a small city. They then contract with an external organization that pledges to achieve that outcome within the specified time period. The external organization—sometimes called an intermediary—raises money from private investors to fund the interventions and actions needed to achieve the outcome. If an independent assessor verifies that the outcome has been achieved through a rigorous evaluation, the government releases an agreed-upon sum of money for the outcome, and the external organization repays its investors with a slight return for shouldering the financial risk. If the external organization fails to achieve the outcome, the government doesn’t pay, and the investors stand to lose their capital.

Government involvement is critical in every stage of Social Impact Bonds, from clearly defining the outcome to ensuring third-party verification. Additionally, it will fall upon the government to ensure that improved outcomes continue beyond the end of an individual Social Impact Bond deal.

The idea originated in the United Kingdom, where the model is being used to reduce recidivism in a prison in Peterborough, address homelessness in London, and prevent at-risk adolescents from entering residential foster care in Essex.

All signs point to significant and growing interest in Social Impact Bonds at the state and municipal level in the United States. New York City recently announced the details of the nation’s first Social Impact Bond agreement last August to address recidivism among young boys. In that deal, which targeted a reduction of at least 10 percent in recidivism among 16- to 18-year-old boys imprisoned at Rikers Island, Goldman Sachs ponied up a $9.6 million investment to MDRC, the social-science research organization acting as the intermediary. Bloomberg Philanthropies guaranteed Goldman Sachs’s investment with a $7.2 million grant, meaning that Goldman will not lose the entirety of its investment should the Social Impact Bond fail. If the deal succeeds, the Bloomberg grant remains with MDRC to use toward future Social Impact Bonds. Legislation has also been introduced in New Jersey, Connecticut, New York, Maryland, and Texas. And Massachusetts, which last August announced the names of the organizations that it intends to contract with for Social Impact Bonds on homelessness and juvenile justice, is well into the process of negotiating the details of those deals.

What does this have to do with the Office of Management and Budget’s grant guidance? The federal government has already identified two funding streams through which they can support Pay for Success and Social Impact Bonds—the Justice Department’s Second Chance Act, which aims to reduce recidivism, and the Labor Department’s Workforce Innovation Fund, which provides funds for workforce-training programs.

The federal government can play a major role in helping translate the budding interest into a sustainable flow of actual Social Impact Bond deals by making small portions of existing budgets available for supporting Pay for Success. Cities and states need this money for technical assistance to negotiate these complex transactions. They need grant dollars to either help set up the structure, help pay for evaluations, or help service providers scale their data-collection abilities. And in cases where some savings from a successful preventive intervention are likely to flow into the federal government’s pocket, cities and states need the Obama administration to make funds available to partially finance outcome payments.

The federal government also needs to act as a learning hub, gathering information about what is and is not working at city and state levels and using that information to make better decisions at the national level.

It can take a lot of effort to prompt a bureaucratic organization to try a new approach, which is precisely why the Office of Management and Budget should take this opportunity to encourage agencies to explore options for using their budgets to support Pay for Success and Social Impact Bond initiatives. Including these programs in its new grant guidance would do just that. In particular, it should consider explicitly allowing agencies to pursue a waiver process that would allow small portions of their existing budgets to be diverted and used to support Pay for Success.

Governments at all levels are working to find ways to cope with shrinking budgets, use taxpayer dollars responsibly, and address ballooning needs in the social sector after the recession. Pay for Success and Social Impact Bonds offer a modest means of tackling all three challenges at once. The Obama administration must not miss this opportunity to encourage federal agencies to use these new tools and to help the pioneers in city and state governments who are leading the way.

Sonal Shah is a Senior Fellow at the Case Foundation and at the Center for American Progress. Formerly, she served as the director of the White House Office of Social Innovation and Civic Participation. Kristina Costa is Speechwriter to the Chair and Research Assistant in Economic Policy at the Center.

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This is part of a special series: Social Impact Bonds

For more from this series, click here