Social Policy Bonds - an overview

(This is a first draft of an article intended to introduce Social Policy Bonds to a wider audience.)


Outcomes: a better policy driver than ideology

Most policy issues are now so complex, so voluminously documented that each side of any argument can be certain to find a very large quantity of supporting evidence. Whether it is war in Iraq, smoking in bars, capital punishment, gun control, or provision of day-car facilities for three-year olds; there are so many facts and seemingly valid interpretations of facts, that ‘there are arguments on both sides’ is about the only useful thing to say.

Those who are involved, those who have a position, are predisposed to select only the information that suits their ideology, or the bottom line of the institution that pays their bills. It is not just on matters like the Arab-Israeli conflict. Even scientific issues, which should be more amenable to objective analysis, are controversial and inconclusive to those who try to follow the propositions made by Bjorn Lomborg in The skeptical environmentalist and the rebuttals, counter-rebuttals, and counter-counter- rebuttals that have ensued. Rather than one’s position being in the middle of a Bell-curve, it is more like that at the centre of a dumbbell with hefty but equal weights at each end: a new fact favouring one side can tip the balance markedly.

War, terrorism, climate change: our most urgent problems are too complex for any except specialists fully to comprehend. There are so many relationships, so many variables, and such large distances of time and space between cause and effect, that to disinterested observers, there are good cases to be made on both sides of such concerns as the Kyoto Protocol or conflict in the Middle East.

Should we, as ordinary members of the public, and voters, therefore give up trying to work out what is the best line to take, when even the highly qualified experts disagree with each other? Or should we take the lazy way out and choose one political faction – left, right, conservative or socialist – and look to them to do the thinking for us? Or should we turn away from policy issues altogether and become cynical or despairing? We do all these things, with and the result is that policy is decided less by engaged members of the public, more by special interests, including the politicians, corporates and media. If this sounds far-fetched, look at the figures for election turnout.

Rather than wait till such scientific arguments are resolved, or to pursue some abstract notions of justice in matters of human conflict, we might do better on efficiency grounds, to subordinate all our activities to our intended outcomes: climate stability, for example, or conflict reduction. This would take the form of rewarding all actions – and only those actions – that lead to achievement of the desired outcome.

Currently, governments that are supposedly interested in a particular goal finance institutions, or people, or activities that have as their stated objective the solution of these problems. But another, much simpler but also much rarer, is to reward people for actually solving the problems. That’s what they used to do in the Wild West when they wanted to eliminate problems caused by particularly nasty individuals. They put together a cash reward, printed some ‘Wanted - Dead or Alive’ posters, and let the private sector do the rest. It is the targeted outcome – the killing or capture of the public enemy – that determines who shall be rewarded not current institutional structures or activities. The same principle, more or less, underlies an innovative new financial instrument that can channel the market’s incentives and efficiencies into the achievement of social and environmental goals.
Social Policy Bonds

Social Policy Bonds would reward people only when they actually achieve targeted social or environmental goals. A fixed number of Social Policy Bonds (‘bonds’) would be issued. The bonds could be issued and backed by local or national government, or by non-governmental organisations (NGOs), or by private individuals. They would initially be auctioned to the highest bidders. The bonds’ backers would undertake to redeem these bonds for a fixed sum only when a specified social objective has been achieved. The bonds would not bear interest. They would be freely tradeable after issue, and their market value would rise and fall. Social Policy Bonds would therefore differ from conventional bonds in that they would have an uncertain redemption date which, in combination with a fixed redemption value, implies an uncertain yield: holders would raise their bonds’ yield by achieving the targeted objective quickly. Once the targeted outcome had been achieved, whoever backed the bonds would redeem them.

How would Social Policy Bonds work? They would create an interest group — bondholders — who have powerful incentives to achieve the targeted social objective efficiently and quickly, or to pay others to do so. Consider an example. Assume that an urban authority is prepared to spend a maximum of say $10 million to reduce the crime rate within its borders by 50 per cent. It issues one million bonds that become worth $10 when the crime rate falls below 50 per cent of current levels for a sustained period — say one year. Because the market would see this objective as unlikely to be achieved in the near future, it would put a low value on the bonds when they are floated. Assume successful bidders pay as little as $1 for each of the bonds. (This sum would be held by the issuing authority partially to offset the cost of redemption of the bonds.) Now, they hold an asset that could appreciate in value by 900 per cent if a sustained halving of the crime rate were achieved. This provides the motivation for bondholders to do what they can to reduce the crime rate.

Social Policy Bonds could in principle, be used to solve any social or environmental problem that can be reliably defined and quantified. Key criteria for policy areas within which Social Policy Bonds would show the most marked improvement over current programmes are:

• existing policies have objectives that are unstated, uncosted, obscure or conflicting;
  
  
• financial rewards to those involved in achieving objectives are uncorrelated to their effectiveness in doing so;
  
  
• a wide array of diverse approaches may be necessary; and
  
  
• our knowledge of the problem, its causes and solutions, is scanty and improving all the time.

That is the approach taken by Social Policy Bonds. Without presupposing whether climate change is happening, what is causing it, or how best to stop it, Climate Stability Bonds can be issued that would encourage people to stabilise the climate. Similarly, Conflict Reduction Bonds that focus on, say, the Arab-Israeli conflict could aim to reduce the numbers of people killed, injured or made homeless in that conflict. People’s need and wish for peace is more important than trying to bridge the gaps between the ideologues, the historians, the militarists and those in authority. A bond regime could bypass, co-opt or undermine those who stand in the way of peace.

Targeting specified outcomes that are meaningful to natural persons, as the US Results Act begins to do, is a necessary first step, but it is not sufficient. The other necessary step is to ensure that resources are allocated in ways that can most cost-effectively achieve these outcomes. This is where market incentives come into the picture.

A symptom of this malaise is the disengagement of many from the political process. Even the United Kingdom’s Labour Party’s ‘landslide’ majority in the British House of Commons is not what it seems. Labour received just over 40 per cent of the vote in 2002, with a 60 per cent turnout. So only 24 per cent of the electorate actually voted for Tony Blair’s party. In the US President George W Bush received votes from fewer than a quarter of the voting age population. It is the same in most other western democracies. We have begun to accept that whichever party receives 25 per cent of the popular vote has ‘won’ the election. In most countries, this represents a dramatic decline in popular engagement with politics over the past few decades.[i]

Perhaps one reason for this is that people are sceptical about the ability of the different political parties to deliver. In the absence of any great ideological divide, most parties have approximately the same manifesto at election time, and seem equally (in)capable of achieving results that are meaningful to electors. If such voter apathy co-existed with satisfaction or optimism about the political environment it would not be a worry. But unfortunately it goes hand-in-hand with deepening dissatisfaction, cynicism and even despair, at the ability of our politicians to deal with urgent domestic and global concerns.


[i] Democracy disconnected from the electorate, Ralph Dahrendorf, Project Syndicate, 2004.