When faced with an investment bank saying that it's going to do something for "social impact," it's fair to interrogate its motives. Take Goldman Sachs's new $250 million "social impact" fund, or the $10 billion that Morgan Stanley hopes to attract to its "investing with impact" platform, for pumping money into projects with some beneficial public outcome. That's just glorified philanthropy, right? Surely just something to help Goldman burnish its image and brag about at cocktail parties, not much more.
That may be true. But if Goldman CEO Lloyd Blankfein is to be believed, he wouldn't be doing it if it weren't also a lucrative enterprise.
Blankfein showed up in Washington Tuesday morning to talk up his new fund at the Center for American Progress (which does receive some funding from the investment bank). First, what it does: Provide up-front capital for priorities that aren't immediate pressing needs, like early childhood education or energy efficient building retrofits, that would nevertheless result in lower costs down the road. Through the power of data, they'll find ways to evaluate the economic return generated by that investment, and split the difference between the investor and the government or nonprofit.
"People can actually go in, analyze the investments that are being made, and see the return that comes from that. Not just soft things, but real dollars and sense returns," Blankfein explained. "At a time when government doesn't have the wherewithal to come up with that one dollar, and as consequence will have to come up with four dollars, I'll come up with the one dollar, and we''ll split the extra three dollars."
So, what kind of project? There are lots of models, but the flagship example is Goldman's creation of the first U.S. "social impact bond," which is being developed at places like Harvard and was used to underwrite a youth recidivism program at Rikers Island. The idea is that if things go as planned, Goldman makes $2.4 million on a $9.6 million investment. Here's the catch: If the program doesn't work, they make nothing, in an arrangement called "pay for success" that's gaining traction across the rest of the government as well.
Goldman has been doing these kinds of projects with its own money for a while now, which gives it some case studies to show clients. So far, the fund has drawn mostly high net worth individuals and foundations seeking to do some good with the investment side of their balance sheet, rather than just the charitable giving side. While a Goldman rep declined to specify what kind of returns they're advertising, the idea is that investors trust Goldman to at least not lose all their money with such a risky, untried financial product.
"Guess what, it's going to be managed with a view to returning principal and earning a little money for the people who invested in it, so that people do okay in it," Blankfein said. "We want it to be a combination of people's better instincts, and their desire not to lose money, to get them over the threshold. If it works, it'll get bigger and bigger and bigger, and have a life of its own... Anytime you can get natural forces to do what you want to have done, that's perfect."
That's the beauty of this scheme: It doesn't presume that bankers and investors are anything other than profit-motivated individuals who'll only keep doing something if it serves their interests in the end. If government doesn't have the capital to make smart investments that will save it money in the long term, might as well have the private sector come in and share the benefits. But they won't do it unless the project works, which is more than can be said for many public-sector and philanthropic endeavors.
"We all stand for something, and my bias is to do things that also promote the benefits of markets and incentive structures," Blankfein continued. "And if we can align those, that's the low-hanging fruit."
To accomplish that, though, Goldman argued that it's important for returns to be substantial -- or at least, not artificially low. On the panel, New York deputy mayor Linda Gibbs said that she'd encountered some skepticism about the idea of allowing a private firm to reap amazing rewards from programs like the one on Rikers Island, and thought the yield should be capped. But Alicia Glen, who heads up Goldman's Urban Investment Group, said that would inhibit the growth of an asset class that already won't be the best performing of the bunch.
"You don't want to be in a situation where you say every impact investment is capped at a 5 percent return," she said. "Because why would you do that instead of a new markets deal and make a 12 percent return? Right now, I have no competition, but at some point, someone will say 'I'll do that deal for 7.'"
Of course, there's still a feel-good aspect: At the end of the year, participants in the fund get a packet of information about the social good they helped achieve, like the number of kids who didn't go back to prison. It just helps to know that they're making money off those kids' brighter futures, not losing it.
Now, it's certainly worrisome that outside capital might permanently create a world in which government never collects enough taxes to be able to make prudent investments over the long term. The private economy overall hasn't benefited from being overbanked, after all, and it would be better if government could take care of its responsibilities without a layer of financialization on top.
At the moment, though, it seems like a potentially valuable tool. And if it doesn't work, at least investors will be losing their shirts, not the public.