Is risk-transfer largely illusory?

Contribution made by GO Lab members Ruth Dixon, Franziska Rosenbach and Michael Gibson, and panelists Helen Evans, Gary Painter, Abby Semple and Elen Riot.

In the SOC20 session ‘Contracting for Risk Transfer and Innovation’ in September 2020 (video recording here), an international panel discussed whether social impact bonds (SIBs) – and outcomes contracts more generally – can truly foster innovation in delivering social outcomes while also transferring the financial risk away from the public sector. In this post, GO Lab members and panelists summarise the discussion, asking what trade-offs occur, how the Covid crisis has affected our understanding of these issues, and what this implies for the future of SIBs.

Innovation, Risks and Costs

Helen Evans from SOAS set the scene with a survey of SIB investors across 17 developed countries. She found, for example, that investors in Germany and Switzerland were typically community driven, while investors in the US, Netherlands and the UK had a more commercial, market-driven, approach. This variation was also seen in their appetite for financial risk: Helen found that market-driven investors often ‘insured’ their potential losses with underwriting from charitable foundations and by recruiting subordinate – often third-sector – investors. 

Gary Painter from the University of Southern California discussed whether SIBs are a tool for either financial or social innovation.  From his study of US and UK SIBS, Gary argued that innovation in the sense of new financing sources is limited. While two thirds of the SIBs had at least one for-profit investor, only a few SIBs in either country were exclusively funded by such investors. And, new sources of financing do not necessarily mean additional funding. To date, SIB investors have almost always been repaid by the public-sector commissioner, often with a high rate of return compared to normal government borrowing.

Further, Gary noted that social innovation is also less prevalent than the rhetoric around SIBs might suggest – in the US particularly, SIBs are generally used to scale up evidence-based programs rather than being used to pilot innovative interventions.  SIBs are thus rarely used to develop a wholly new way to achieve more effective and equitable solutions for complex social problems, but rather to facilitate the innovation process by scaling ideas piloted by others.

Jesse Hajer, in the audience, asked what opportunities are being sacrificed both through the high direct costs of SIBs and their set-up and management costs? What benefits do we see that justify the costs?  Gary suggested that SIBs themselves can be a mechanism for disruption – for example forcing a complacent sector to refocus on outcomes – even if the intervention itself is not novel. Co-creation too, with citizens and service users, might inject this missing sense of innovation.  As Abby noted, however, innovation per se does not always lead to better outcomes – such as with some recent government procurement contracts for protective equipment.

Risk-Transfer in a Crisis

The Covid crisis provided the opportunity, however unwelcome, to stress-test the risk-transfer that SIBs are meant to embody. But was that risk-transfer ever really put to the test? Abby Semple, of Public Procurement Analysis, pointed out that near the start of the crisis the UK Cabinet Office issued guidance allowing outcomes-based services to waive their contractual terms. The fact that payments continued in the absence of evidenced outcomes meant, Abby argued, that risk transfer was largely illusory. During the crisis the government continued to pay for outcomes-based services as well as in some cases having to arrange alternative services. Perhaps that was justified under the exceptional circumstances, but as Abby pointed out, risk-transfer only matters when things go ‘off-piste’.

Probing the contractual terms further, Elen Riot of Reims University showed how the Covid crisis can either be seen as a ‘force majeure’ event – an ‘unpredictable and irresistible event’ – or alternatively as no more than ‘a change of circumstances under control’. Elen found that SIB managers tended to take the latter view, adapting their services but sticking to their original mission, and in some cases receiving government support while pausing services altogether. Some services cannot be put on hold, however, and the public sector has a duty to protect the most vulnerable. Managers of traditionally commissioned services, Elen found, therefore tended to view the crisis as a force majeure event with significant long-term risks for the wellbeing of their clients.

Nevertheless, SIB stakeholders – managers, front-line workers, and clients – experienced the crisis in different ways. SIB administrative bodies, being somewhat more remote from the field, may view the situation as ‘under control’ even when operations are discontinued. That was not the case for front-line workers – who risk losing their jobs – and clients (vulnerable children and their families) – whose support is suddenly terminated. This situation can only get worse as new lockdowns and restrictions are imposed.  The recent relaxation of restrictions was too short to deal with the problems that remained unseen during the pandemic because of increasingly difficult access to clients.

Thus, the crisis revealed that the public sector remained the ultimate risk bearer – a topic the panel explored further in the discussion of the future of outcomes contracts.

Future of Outcomes Contracts

Panelists agreed that outcomes contracts are likely to change in the light of the crisis. Commissioners and providers often found that existing outcomes and evaluation frameworks were simply unworkable during the societal upheaval of 2020. That led the panel to ask, if our frameworks break down in a crisis – are we trying to evaluate the wrong things? While SIB contracts might give service providers flexibility to adapt their services, some outcomes – such as employment opportunities – had essentially disappeared.  Evaluation frameworks, Gary noted, must either be flexible and robust enough to cope with unexpected events or have a mechanism to allow them to be renegotiated at the point of crisis.    

Investors may become more risk-averse, writing ever more capital protection into SIB contracts. Alternatively, contracts may become more relational and less tightly specified, allowing rapid and innovative responses. Some of the most successful responses to the crisis have been through pre-existing collaborative partnerships (see Hameed and FitzGerald, LSE Blog 2020).

Finally, we should not forget that the overall focus of public sector contracts – as Elen pointed out – must be on the vulnerable citizens who are, in the end, the ultimate risk-bearers when their social needs go unmet.