The recent controversy surrounding the discontinuation of critical USAID programs by the second Trump administration has reignited an erstwhile discourse about the deployment of aid in vulnerable communities, and the potential for misuse of these funds for political and ideological ends. Beneath this cacophony nevertheless lies the harsh reality of severe human suffering across the globe: more than half a billion people living in extreme poverty, more than a million die each year from diseases spread by unsafe water, poor sanitation, and lack of hygiene, and recurrent communicable diseases. Add this to violence and crime, and hope starts to retreat really fast.
According to FAO, global progress towards nutrition targets is gravely insufficient, with the world not on track to eliminate all forms of malnutrition by 2030. Food security remains stagnant, and economic access to healthy diets is uneven, undermining efforts to achieve Zero Hunger. In 2023, between 713 and 757 million people may have experienced hunger, with one in five people in Africa affected. In 2022, over 2.8 billion people globally could not afford a healthy diet. Inequalities are also massive, with low-income countries having the highest percentage of the population unable to afford healthy diets (71.5%). Sadly, by the end of the decade, 582 million people are projected to be chronically undernourished, with over half in Africa. The same grim underlies the global progress toward sustainable energy. By 2030, an estimated 660 million people will still lack electricity, and nearly 2 billion will rely on polluting fuels for cooking. Slow progress on clean cooking solutions is also a major concern, with nearly a third of the global population, especially women and children, still exposed to harmful air pollution. Ultimately, energy poverty in Least Developed Countries (LDCs) hampers their sustainable development, impacting health, education, and economic growth.
To most, the outright answer to these challenges is in philanthropy or aid, but some have cautioned us that this approach sometimes worsens the problem in low-income countries. In a 2009 hard-hitting book titled Dead Aid, the Zambian author Dambisa Moyo opened a can of worms on the long-term consequences of aid dependency. She warned that foreign aid to Africa was driving away talent, and reinforcing ineffective policies, all of which contribute to poverty and conflict, making millions of people poorer, perpetuating corruption, and reducing the continent to a state of dependency. Of course, there was pushback, but to me, the contestations were more about the short-term versus long-term views, than they were about the exactness of her economic figures. Charity has meaningful short-term bandaging, but it also conceals difficult wounds that would rather be exposed to heal.
Entrepreneurship in philanthropy
Private ownership and competitive markets have been two critical pillars of capitalism, and their transformative influence on human flourishing will echo for centuries to come. However, the negative aspects of capitalism such as the tendency to encourage monopolies, exploitation of workers, and huge wealth gaps have created a divide whereby most people think that you cannot target market returns while caring for social and environmental issues. Meanwhile, traditional philanthropy through charities faces many headwinds–charities rarely reach the scalability of for-profit organisations, and often treat discernible symptoms while the real problems persist. Impact investing attempts to stand in between, injecting entrepreneurial profit-making attitudes to transform philanthropy. To this end, faith-based groups led the way in trying to allocate financial resources to initiatives that aligned with their higher calling. For instance, methodists and quakers are some of the earlier religious organisations that applied negative screening in guiding followers on investment decisions, to align with their religious beliefs. Some high-net-worth Individuals are also rethinking how to have a greater impact, avoiding the frugality imposed on charities, and injecting big capital in ways that don’t distort free markets.
Impact investing is part of a broader impact spectrum from philanthropy to sustainable and responsible investment. Typical financial investing is a fully commercial endeavour, motivated by financial returns. On the other extreme, conventional philanthropy addresses societal challenges through the allocation of grants for a social return only. Impact investing is thus the allocation of funds with the aim to generate particular non-financial returns (such as good health, crime reduction, elderly care, financial inclusion, and housing) alongside financial returns. Amidst the unpredictability caused by the global connectivity of markets, voices calling for shifting capital markets to consider impact alongside risk and return are becoming more pronounced. At the same time, younger generations are increasingly seeking meaning and purpose in their work, causing a rise in impact entrepreneurs under a conviction that there need not be a trade-off between financial and social returns. Is there a chance to drive even faster growth via impact, similar to venture capital?
The Invisible Heart of Markets, a 2014 report by a taskforce established by the then UK Prime Minister David Cameron, and headed by Sir Ronald Cohen, underscored that impact investment is reshaping how social and environmental issues are tackled, blending entrepreneurship, innovation, and capital to create positive change in society. Their report pointed out that social sector organizations often struggle to scale their impact due to limited access to finance, but impact investing can transform how these organizations are funded, helping them achieve their missions on a larger scale. Additionally, while impact investing doesn’t replace government responsibility, it can help governments fulfill their roles more efficiently by funding innovative solutions that reduce demand for social services or improve service delivery.
Social Impact Bonds
In recent years, impact bonds have emerged as a key driving force in blending profit-making and social impact. They are outcomes-based contracts between 1) investors or service funding programs aimed at improving the lives of vulnerable groups by addressing social or environmental challenges and 2) the public sector or governing authority, which pays for better social or environmental outcomes. The investors only receive payment if specified goals are met.
In 2010, the UK Ministry of Justice in partnership with Social Finance UK, initiated a Social Impact Bond (SIB) at Peterborough Prison, designed to reduce recidivism among short-term prisoners. The bond was structured to access £5 million in funding from private investors to finance rehabilitation services for approximately 2,000 prisoners. Investors would receive a return on their investment, funded by government savings from reduced reoffending, initially targeting a minimum success of 7.5% reduced recidivism. If the targets were not met, investors would lose their capital. The program ended with a cheering 8.4% reduction in reoffending rates, shining a bright light on SIBs.
In Australia, SVA reported that the Social Impact Investment Trust (SIIT) started in 2015 in collaboration with HESTA, successfully delivered both measurable social benefits and financial returns. Growing to an AUS$91M investment pool, SIIT funded multiple social impact projects, including a housing project that provided homes for priority groups such as teachers, nurses, social workers, and people with disabilities. SVA also announced that The Aspire Social Impact Bond successfully matured, supporting 575 people experiencing chronic homelessness. Of these, 81% were housed, with 85% maintaining their tenancies. Participants saw significant reductions in hospital (29%), justice (33%), and emergency accommodation (73%) service usage, alongside a 41% employment rate. These outcomes exceeded expectations, delivering a 14.1% annual return to investors and over AUS$40 million in savings for the South Australian Government. The program, recognized as a successful Housing First initiative, has secured ongoing government funding.
Additionally, the Arc Social Impact Bond is offering investors financial returns while supporting formerly incarcerated individuals in rebuilding their lives and reducing reoffending in Victoria. The program aims to assist 387 at-risk individuals. Investor returns depend on program success in reducing justice, health, and homelessness service use. The bond has a 6.25-year term, offering 3% fixed coupons for three years, performance-based returns in years 4-6, and capital protection exceeding 50%, with potential returns of up to 12% annually.
Structural inadequacies in developing countries
Impact investors face extraordinary challenges in countries with weak or absent legal institutions. Due to the innate focus on mending social and environmental challenges, impact investing almost always finds itself operating in developing countries, frontier markets, and disadvantaged neighbourhoods and regions.
According to a 2015 paper by Stanford Law School, a consequence of this is the exposure to risks that are rarely of concern in more developed political and legal environments. Regulatory Risk emanates from vague or conflicting laws, whose interpretation may be influenced by political or economic pressures or corruption, and the risk of unexpected legal changes that could harm the business or investor, such as changes in taxes, or revocation of licenses. Currency Risk is also a major concern, whereby investments are susceptible to fluctuations in the value of local currencies. Social Risk involves the attitudes of local communities, civil society leaders, and politicians, for example, their reactions based on previous negative experiences with microfinance institution practices.
Environmental Risks are exacerbated by underinvestment in public infrastructure, giving unpredictable disaster-prone climate the potential to cause immense losses. On the other hand, Intellectual Property Risk includes the risk of cheap knockoffs that reduce the market size of intellectual property owners and minimise trust due to poor quality. Finally, Counterparty Risk comprises the risks arising from negative actions of investees or co-investors, such as fraud, embezzlement, and failure to meet contractual obligations, particularly in countries where legal enforcement of contracts is weak. The paper advises that risks associated with human relationships can be mitigated or minimised through meaningful due diligence and thoughtful reputation management. Encouraging private investors to sign international agreements that hold policymakers accountable to global bodies can help reduce environmental risks over the medium to long term. Unfortunately, association with government agencies and leaders where regulatory risks are eminent is a double-edged sword and must be analysed within the context of the business type, business size, and other factors that arouse government interventions such as nationalisation.
Closing thoughts
The world is lagging way behind in achieving key milestones necessary for global human flourishing including eliminating extreme poverty. In our intricately interconnected world, these challenges though sometimes residing in dark corners have global implications.
Traditional philanthropy has achieved a lot, but it has not been able to attain the scale and innovation necessary to tackle this massive deficit. Nonprofits and philanthropy are prone to taking on multiple fronts and sometimes drifting, tangled and twisting, without measurable outcomes. Entrepreneurship on the other hand tends to narrow down to a few quantifiable investments and financial outcomes. The social problems that need to be fixed are infinite, yet only some have a clear definition, a clear solution path, and measurability of outcomes. The combination of philanthropy and profits is a lethal tool, and this is largely the success story of impact investing.
For developing countries, there is a need to strengthen the structures that can intake impact investments and those that minimise social, environmental, and regulatory risks. Ultimately the key is the measurability of the impact from investments. On the one hand, the nonprofit sector is unlikely to lose its sweet spot in the public imagination, but on the other hand, this trust has a financial ceiling–one that prevents the necessary scaling. Encouraging entrepreneurship in these countries will have many collateral benefits, like talent retention that will outlive the term of impact bonds and other initiatives, leading to long-term prosperity.
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