Hit or Miss: A Weak Critique of Impact Investing—and a Strong One

As impact investing gains steam, with the Ford Foundation recently swinging behind the trend in a big way, more critics are also emerging to question whether foundations should deploy endowment capital in this way.

That’s a good thing. In an $18 trillion economy, the wealth held by private foundations is small in scale and highly valuable. It needs to be managed wisely and used strategically. We should welcome a robust debate over impact investing that’s not just confined to foundation board rooms; a larger audience needs to hear the different arguments.

But as new criticisms start to flow, I’ve noticed that while some raise very good questions, others feel wildly off base.

An example of the latter can found be an op-ed in the Wall Street Journal published last week by James Piereson and Naomi Schaefer Riley. The authors say that when foundations like Ford and Rockefeller invest in areas like clean energy or affordable housing which already receives public subsidies, they are mimicking the worst tendencies of government.

They use investments in “zero emission” cars as an example. “Both politicians and the Ford Foundation are picking winners and losers—favoring what they see as more environmentally sound cars over traditional ones. Generous government subsidies also create distortions within the electric vehicle market itself.” Ford, the authors, say, is “putting its pretty big thumb on the scale” in this marketplace. Likewise, they worry that Ford's investments in affordable housing could have a harmful effect in an “area where government regulations and subsidies have already distorted the market significantly.” About impact investing writ large, they write, “... these days, it seems philanthropic money simply follows government money,” and warn that “the potential for harm is significant.”

But Piereson and Riley show little grasp of the field of impact investing right now. Government is not the key leader, here; private investors are. One survey by the Global Impact Investing Network (GIIN), found that $15.2 billion was put toward impact investing in 2016 by 157 respondents. Very little of this capital came from foundations or nonprofit institutions; most came from traditional money managers.

Rather than parroting big government, impact investors are coming up with creative ways to use the tools of private enterprise to improve society. Why shouldn’t Ford and other foundations want to get in on this trend—especially when leading institutions in finance have legitimized such investing?

While Piereson and Riley train their fire on Ford, the foundation with the largest impact investment portfolio by far is the Bill and Melinda Gates Foundation. If you look at its investments, you’ll see just how off the mark Piereson and Riley’s analysis is. The foundation’s biggest stakes are in pharmaceutical and biomedical companies that are developing new vaccines or other medical products to help people in developing countries. Other investments have gone for new contraceptive devices, micro-finance funds, agricultural lending pools and edu-tech. Meanwhile, as we've reported, Bill Gates is leading a group of billionaire investors who are directing new capital into the quest for clean energy solutions. Among them are some of the most savvy money men around.

Investments like these aren't about following government or bolstering crony capitalism. They're about backing business ventures that also seek to achieve important social goals. Free market fans like Piereson and Riley should be the first to admire the win-win nature of Gates’s strategy. If this kind of investing can succeed at scale, the need for government interventions to solve societal problems will decline over time.

Likewise, they should be applauding the new ways that socially minded private capital is being used to build more affordable housing. While real estate developers seeking the highest possible profits aren't attracted to such housing, private investors can still get acceptable returns by putting their money into affordable housing projects. The same goes for investing in local community development financial institutions that lend to local businesses. It makes sense that foundations like Ford might want to put some of their capital here, too—especially when success in further developing this marketplace could mean there's less need for government to build affordable housing in the future.

Ironically, one of the strongest arguments against impact investing by foundations is that there’s now so much private capital flowing into this area that foundations don’t need to put their own capital at risk.

That’s a key point made by Larry Kramer, president of the Hewlett Foundation, in a recent article in the Stanford Social Innovation Review. Kramer notes that many of the wealthy younger people coming into the social sector right now are looking to deploy significant capital in impact investments and that the big investment banks and hedge funds are also rushing to create impact funds. He writes: “That fact obliges organizations like Hewlett to ask whether the diversion of our scarce grant dollars is necessary or appropriate.”

Kramer argues that the best role for traditional foundations right now is to use their grantmaking skills to build the field of impact investing. He says this could take several forms:

We can use our expertise in energy, for example, to help cities develop transportation or housing plans that are appealing to investors while also maximizing the reduction in greenhouse gas emissions. Or we might make grants to help potential investors find the most impactful investments—supporting organizations like the Prime Coalition or Aligned Intermediary, which provide philanthropic investors with tools, information and support to make smart, effective investments.

Kramer says foundations can do all this while still sticking to their main mission: supporting the nonprofit sector. What foundations shouldn’t do, he argues, is divert their attention and resources to bolstering a growing part of the private sector that’s increasingly awash in new capital seeking social returns.

I think Kramer understates the potential upsides for foundations when it comes to impact investing and overstates the downsides. But his article is worth a close read and so are the comments on the piece. It’s a smart critique by a foundation insider that says advocates of impact investing need to engage.