The Case for Social Investment Bankers

in ‘White Papers’, Reports, Articles

Why are public services so hard to change?   Why do too many of them continue to provide mediocre or, even, next  to no value to their customers and citizens?  The reasons are many  and various.  But one much under-used lever of change is funding.   The upcoming Comprehensive Spending Review – CSR07 – by the Chancellor  and Treasury to allocate public expenditure for 2008/09 to 10/11 provides  the opportunity to pull this lever hard.  How?

Broadly, the funding of public services  is glued to its delivery organisations with changes, up and down, only  at the margin.  Compare this with services and products which have  changed rapidly and radically – internationally competitive sectors  like retail, mobile phones and consumer electronics, governed by the  capital markets which, for example, have produced the invention of and  massive improvement in the price/performance ratio of the DVD player.     Here funding is mobile.  The stock markets respond to company performance  by increasing or decreasing their capital base through share price movements.    Investment bankers take a more active role through the buying and selling  of companies and thus restructuring industries to produce, on average,  higher financial returns.  The venture capitalists, operating at  the highest risk/return end of the market, respond to and seek out start-ups  and reconstructions.  These three mechanisms take each £ and are  constantly on the look out to increase its return, by keeping it mobile.   Crucially, boards and managements change as a result, and the organisations  of delivery.  Mobile funding drives innovation, as innovation is  at the heart of better customer service, efficient processes and new  products and services all of which produce higher returns.  With  the largely static funding of public services, it is extraordinary that  there is any innovation, not that there is too little.

Are there transferable lessons here for  the public services?  And without presuming that a full-blown market  economy is possible or desirable for public services?

Prisons may be an unexpected example  from which to conclude the answer is yes.  The Carter Report proposing  the National Offender Management Service sets out a mechanism for mobile  funding.  Rather than continuing to provide correctional services  via the fixed institutions and services of prisons and probation, hostels  and drug rehabilitation, the intention is to focus on outcomes: the  appropriate punishment and, more importantly, the reduction of re-offending  through packages of measures for each offender.  Competing suppliers  will experiment and innovate to reduce re-offending, a socially valuable  outcome.  Existing prisons would be suppliers if they change and  are competitive on re-offending rates.  Thus public service reform  is driven through mobile funding.  In the face of such a potent  lever of change, the prison service and its staff has mounted a major  lobby to resist this form of mobile funding, a sign of its value.

There are investment funds of sorts which  government distributes – the Technology Fund, Futurebuilders, and  Higher Education Innovation Fund as examples, sometimes good in themselves  but covering less than 1% of public expenditure.  There are grant  regimes for many community and voluntary sector services which typically  operate through relentless competitive tendering and which usually keep  these organisations weak and off-balance and are administrately ultra  high cost.  Private sector companies know that they will continue  to attract investment if their returns are acceptable.  The voluntary  and community sector needs the same certainty from its government bankers.

To be effective, the capital markets  analogy would have to apply to all areas of the public sector where  government and the public seek significant change, which is nearly everywhere.

A further existing example is the provision  of social housing which was once the monopoly of each local authority  housing department.  Now funding is on the move via 2000 registered  housing associations. About half of  these have developed at some time or other with Housing  Corporation HC money.  Twenty  years or more ago, the Corporation was anxious to give “buggin’s  turn” and ensure that most housing associations had a bit of development  or other funding every so often – in other words, to spread around a  small cake to the maximum number of diners.  Gradually, however,  it realised that it got better value for money by investing proportionately  higher amounts in a smaller number of more expert HAs.  At first,  it established a list of developing HAs for each LA area, so cutting  many smaller and/or less efficient HAs off from regular development  funding.  Even then, it realised it was creating a “comfy  club” of regular developers and decided to concentrate funding  in an even smaller number of development partnerships – groupings of  expert developer – HAs who band together to give better value for money.  Agreements with these HAs involve year-on-year efficiencies.

The Corporation is now opening up the  bidding process to true developers (that is, to Wimpey or whoever) to  see if they can give even better vfm than traditional HAs.  Next  year will be the first when development funding for social renting will  go to both HAs and commercial developers

In addition to targeting recipients, the  Corporation also targets area initiatives: much of its current funding  is targeted either at growth areas (eg Thames Gateway, M11 corridor)  or at Housing Market Renewal Pathfinders (such as Manchester/Salford  or North Staffordshire).

So, while far from perfect, it is possible  to make the case that Corporation funding has concentrated on those  who can use it most successfully, while also being targeted through  Government’s area-based initiatives.

How and where else might mobile funding  be used?  If a team of social investment bankers operated from  the Government with a remit to seek higher <em>social</em> returns, what  would they invest in and from what services and institutions would they  divest?  The latter category would clearly include some segments  of the domestic violence prevention service and some regulation, which  are both negative in outcomes.  On the investment side, the world  would be their oyster as they moved funds out of static and under-performing  organisations and into both existing services which are already providing  higher value but which fight a long and usually losing battle to mainstream,  and into new outcome-driven services brought to them by social entrepreneurs.   Innovations, like emotional literacy in schools, would be properly funded.

Under-performing agencies would see their  managements and boards change (and this does happen, but rarely and  as the exception) as the social bankers reviewed their performance.   Agency mergers and acquisitions would be driven by the pursuit of higher  social returns with hard-nosed and measured social business plans, and  not by good ideas which may be right.

Beta factors would be defined for different  types of agency/service provider to reflect their track record and the  specific risks associated with delivery in the “market” they face.

Beta is a measure of market risk (for  a business as a whole or of specific project risk). Therefore, if a  business/project has a high risk, it will use a higher beta factor in  its cost of capital calculation which in turn requires the business  or the project to require a higher return to justify investment in it  by third parties.

As a result, public sector organisations  considered to be higher risks in which to invest will face higher betas  (and hence cost of capital) and so face more difficulties in attracting  finance from the social bankers unless they can demonstrate superior  social returns – an appropriate challenge if the bankers do not think  that management can deliver the required returns. Some current big systems  projects spring to mind.

It may be possible to go further and  introduce social outcome trading (analogous to carbon emissions trading).   Up to 70% of A & E admissions on a Saturday night are due to alcohol-related  crime.  Up to 75% of prison inmates should be in mental health  care. With social outcome trading, the Home Office takes the alcohol  crime problem in return for the Department of Health taking the mental  health one.

To guide our bankers’ investments,  measures of social return are needed.  Within a major area of spend,  this is usually straightforward – reduction in re-offending in criminal  justice or trend decline in domestic violence rates, as examples.   The economic and social impact analysis associated with grants for inward  investment/objective 1 status represents a more complex calculation.  Indirect effects can be determining factors in cost-benefit analysis,  for example on transport project appraisal.  The economists are  catching up intuition here.  Of course intuition is much used in  business judgements and disallowed in central government.  Intuition,  trained and disciplined by living with its results, is an appraisal  process.

Social investment bankers would have  a very different approach to much of today’s Treasury.  This  operates more like a ship’s purser issuing cash to authorised bodies  which ask often and make an adequate case.  Our new bankers would  worship only the highest social returns, be without emotion in relation  to existing organisations, have a strong sense of entrepreneurial drive,  and an open door to front-line innovation.  Funding would be distributed  as much, if not more, from bottom-up social enterprise as top-down frameworks.

What happens today in many surgeries,  courtrooms, police stations, schools and government offices is not so  very different from what happened 20 or even 50 years ago.  Which  is not surprising, since the same institutions continue to be funded  (although the names may change), the measures of performance in terms  of outcomes for citizens/customers are rare or non-existent, the internal  incentives for change are status-quo-centric, and the stimuli for improvement  are largely non-existent.

It does not have to be this way at all.   Bring on the social investment bankers, and with this regime bring back  passion and energy into public services.

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