There has been a lot of chatter in the last few weeks about social development bonds. Basically, they are financial investments that are spent on social-welfare development which pay-out at a fixed point only if there is good evidence that the social-welfare efforts were successful, and not at all if not. They are currently being pioneered in England by the group Social Finance.
There are two queries that I have about these bonds. First is that since they are linked to a cost-benefit measurement before paying out they are really a cross between a bond and a share. The bond holder will be expected to take great interest in the service delivery etc to ensure a return, but that is hardly current bond holder practice. Second, can the impact of an intervention be determined reliably and even if it could be how would we determine what is a ‘successful’ project? There is more mileage in the ‘share’ analogy here since there will be a price-over-earnings consideration that is not normally considered by bond holders.
Which brings me to the question of risk. If these complex bonds, which have share-like dependency on performance, are to be commercially traded, who is going to take on the additional risk? To make the bond attractive the interest rate will have to be high, and that additional risk will be paid for by the government when it pays out. The externalities are positive (successful project) but the whole thing rests on the idea that the benefit from private sector involvement is greater than the additional cost to the government in borrowing. I am not so sure that this argument is sound.