Dec172019
Posted by:Nishanth Nandakumar
An economist’s first look at Impact Investing!
When you take out that loan from the bank to finance your purchase of an existing (but extremely beautiful) house, do you think it adds ‘real’ value? You might be inclined to think it does. Well, at an individual level – yes, indeed it adds personal value by helping you live the life you always dreamed of. However, what does this transaction (worth multiple years of your hard work and sweat no doubt) contribute to the ‘real’ economy of the country? Quite simply, nothing.
This is what famous 20th century economist, Joseph Schumpeter, and many of his present-day economic apostles will tell you. This is because they believe that the crucial distinction as to the purpose for which credit is taken, is fundamental in determining if the credit is utilized to add value to the real economy. In this particular case, no new house is being constructed (i.e. no new direct production activity is taking place) and hence no real value added Inspired by this line of thought, I wished to work in a sector which did not just resonate with my own skill set but one that made ‘real’ contributions not just to the business environment, but to society as a whole. Soon enough, a couple of months into my job search, I stumbled across the impact investing sector. Impact investments, as defined by the Global Impact Investing Network (GIIN) are “investments made with the intention to generate positive, measurable social and environmental impact alongside a financial return”.
Post the irresponsible short-termism that capital markets resorted to a decade ago during the financial crisis, this field has a refreshing long-sighted approach to putting financial capital to work (it is now referred to as ‘capital for good’). Far from just a fancy coined term, many players in this industry seem very serious about their end goal, bringing clear structure and business objective to the formerly humanitarian and value based social considerations that some entrepreneurs incorporated into their business models. Thanks to my bachelor background in accounting and post-graduate in Economics, I was able to indulge in some mind-mapping of concepts that correspond to both impact investing (or social sector accounting) and macroeconomics.
I was pleasantly surprised (and to be honest, a bit relieved that my economics degree was not completely irrelevant) to see some starkly resembling concepts and terms that align impact investing with macroeconomics. Here are some interesting jargons or acronyms from macroeconomics that are also used in the social finance sector.
1) BOP: Bottom of Pyramid markets [Macro term: Balance of payments]
This term popularized by the renowned management scholar, C. K. Prahalad, refers to the socio-economic group at the very bottom of the wealth or income pyramid. This group is often the target market of many innovations and entrepreneurial ventures in the social sector. The need to keep prices low (and in turn costs) in line with this group’s purchasing power, is crucial to penetrate this vast market.
So, the ‘balance of payments’ (which acts as a country’s accounts of all transactions with the rest of the world) as macroeconomists know it, is not the only “BOP” in town.
2) Steady State
In recent times, I have come to know that Robert Solow (Winner of the 1987 Nobel prize in economics) is not the only one who described a ‘steady state’ in his infamous economic growth model. Solow equates the steady state as an equilibrium between production and population growth, but it also seems to be a ‘thing’ in social sector accounting. Financial models used by impact investors for social innovation start-ups are often drawn up for “steady-state” scenarios. This is a forecast into the future where the enterprise has matured, with revenues and costs holding constant. This ensures that financials are realistically estimated for the intended scale at which the firm wishes to operate and not at their current seed level.
3) At scale
To a social entrepreneur, “at scale” means that you’ve expanded your venture or pilot project into an enterprise—in other words, it has reached out across the entire target geography, and is operating at its most efficient level. In macroeconomics, ‘at scale’ basically corresponds to the full employment situation in an economy. In the latter macroeconomic case, all available labour resources in the economy are being used in the most efficient way possible, whereas the former social sector case refers to all organisational resources being used most efficiently.
These are three interesting jargons or acronyms from the economics glossary that have found a place in impact investing too (or vice-versa)! However, something tells me I am going to discover more such similarities as I learn further about impact investing during my time at Caspian. Looking forward to it!
