Triggered by a visit to a recent meet up here in New York, I have been thinking about the impact investing industry. In one way or another, much of my finance career had something to do with it. The question now – is it the future and worth much more of my personal focus? I can’t help but being skeptical of the industry. Some pointers on why below the jump.

For lack of a better photo (?) – Kashgar cattle market, western China, 2004

There is tons of research out there that in one way or another supports or debunks the alleged merits of impact investing. A lot of great initiatives are associated with the field (although perhaps not “owned” by the impact investing scene I would argue), e.g. “patient capital” (the idea that longer time horizons may lead to more sustainable investment decisions) and impact assessment (how can one measure non-financial outcomes of a donation / investment?).

In the end it boils down to some ideological convictions. In this country (the US, that is), philanthropy and the initiative of the individual are important tenets of citizenship. People are sceptical of more government intervention, which is seen as inefficient. Professor Reinhardt of Princeton notes that:

[M]any Americans have the notion that private charities are more efficient than government can ever be. […] My experience is that to many Americans this notion, which is nothing more than a hypothesis, is an axiom, a statement so self-evident that it does not require proof.

A good article to read is this one here on HuffPo, written by a Republican rabbi:

Those who want to pay more taxes are welcome to. It’s a free country. But all of us need to push ourselves to give a lot more charity. Being forced to pay taxes does not make us more virtuous people. If it did, our founding fathers would have thanked George III for his coercion. But voluntarily giving more charity makes us more righteous, more noble, more caring, and more generous.

To me impact investing mirrors much of this philanthropy vs. tax debate. Equipped with the right incentives, we now think the market can deliver the right social, environmental and financial results. In fact, the WEF says that impact investing “engages governments as impact investments offer opportunities for more efficient delivery of public service”. Impact investors reject that the only veritable means to solve social challenges is through government or charity.

If we accept for a moment that impact investments deliver sub-par financial returns (otherwise they would be cleared by the “normal” market, right?) but almost as a compensation offer returns elsewhere (social/environmental) then we invariably arrive at a discussion about values. Just like the private donor (or philanthropist) to a charity can pick and choose a cause that reflects his/her worldview, so can the institutional impact investor.

As there are so many trillions of USD under management and only a fraction of those invested in impact investing instruments, the large-scale mobilisation of funds invested for the good cause is held to be a potential game changer in today’s challenged world – think poverty and climate change, for example.

Let the market for impact take care of the most pressing social needs of our times, as long as these can be monetised. All of a sudden, we see cash flows in places we didn’t before. Although still an industry in its infancy, funds such as Acumen deliver the products for this future. It is about visibility and quantification of “lives impacted” that are to guide investment decisions.

Benefits of the impact investing approach are hard to dispel – e.g. marrying elements of philanthropy with impact investing can open up markets that had been closed before (first loss cover is a good example). Yet I fail to see how this is in principle different to a government providing tax breaks and/or other subsidies to a certain industry.

The fact that this doesn’t happen – i.e. that the government fails to do this (which I assume is especially true in many developing countries) should be all the more reason to have it do it in the future, i.e. to focus our attention on that. It is solutionism to believe that developing countries can leapfrog effective governments through the power of a self-clearing (impact investing) market.

There has been a good discussion on the merits of charity / charitable tax deductions etc. here in the US, e.g. in this piece by Rick Cohen:

We must also remember that, as a societal function, charitable giving that benefits people depends on the decision-making of individual givers. If these givers choose to pay attention to certain societal needs and not others, there is no redress for the latter. For government, however, taxpayers vote. As damaged as the democratic process might be, there is more input and redress available to taxpayers into government’s use of revenues than there is to charity’s or, for that matter, institutional philanthropy’s, use of funds.

I think it is only valid to have a similar debate on impact investing and the role of a modern and well-functioning government. Taking on the knee-jerk position that charity hence impact investor automatically delivers social goods more efficiently than the government is too bold a claim to let pass without further scrutiny.