This article orginally appeared in the Local Government Chronicle on the 3 February 2011.

Over the past two years, interest in Social Impact Bonds (SIBs) has been growing. To the most optimistic, they have the potential to unlock untapped investment in the private sector and redirect it for social purposes, funding many of the projects and services that are most under threat from public sector financial austerity.

Under a SIB, a payer (usually government, at a national, regional or local level) agrees to pay for measurable improved outcomes of social projects, and this income is used to attract funds from commercial, public or social investors to offset the costs of the activity that will achieve those better results. This approach is possible where better outcomes lead to tangible public financial savings.
But in spite of the flurry of excitement, so far only one deal has been signed, involving Peterborough prison. A six-year pilot scheme run by Social Finance will mean around 3,000 prisoners serving less than 12 months receiving intensive interventions both in prison and in the community.

Funding from investors outside government will be initially used to pay for the services, which will be delivered by Third Sector providers. If reoffending is not reduced by at least 7.5% the investors will receive no recompense.

The Young Foundation is currently working with a number of local authorities and other agencies to analyse the feasibility of SIBs. The deputy Prime Minister Nick Clegg has called on the private sector and banks to "put something back into society by supporting social impact bonds and other forms of social investment".

The focus of this announcement was tied to Graham Allen's report on early years, but SIBs are also being tested for fitness for purpose to fund initiatives that stop offending, reduce hospital re-admissions or youth unemployment, increase the number of people going into drug rehab and help care leavers cope.

SIBs need a number of factors to come together to work. Late last year we published the "seven tests of a SIB". These tend to be deeply technical: whether the impact of the intervention is measurable (that it is not so diffuse that effects cannot be captured); that savings are greater than costs and do not benefit the agency providing the service (a SIB-friendly example is when council services that get people into employment result in savings to the government's benefit bill); and that enough people will benefit to produce data that is statistically significant.

The pass rate for all the tests is high, and SIBs will not work for the full range of preventative services that are desperate for funding. SIBs are no miracle cure for fiscal pressures. Neither will they generate huge sums of funding from new sources overnight.

The issues about measurement and constructing metrics are complex, but we are starting to build the underpinning arguments that show that in some fields, the case for SIBs is compelling. SIBs will only get traction if investors are willing to take the risk of putting money into them, and if government is willing to enter into contacts for payment.

The appetite of both these groups is unclear. Some of the reticence is doubtless due to the concept being new and unproven. There are also fears we could be creating something as complex and problematic as PFI. But it is also true that the first group (investors) are going be less willing to jump until the second group (government) looks willing to enter into some more deals.

We need the government to commit to pilots, across a number of fields, aligned to its overall approach to payment-by-results. Until we test more SIB models we will not understand how the concept can be used to fund and manage services that deliver evidenced outcomes, benefit some of the most vulnerable people, and ultimately save the state money.

Read the article on the LGC website (subscriber only content).

Read more about the Young Foundation's work on Social Impact Bonds.