Opportunity Zones | November 6, 2018

Opportunity Zone experiments in reviving economic mobility: Q&A with Raj Shah

David Bank
ImpactAlpha Editor

David Bank


That’s the key word that pops out of a conversation with Rajiv Shah, president of the Rockefeller Foundation, who is keen on making the most of the expected infusion of capital into low-income Opportunity Zones.

The zones are “the biggest experiment today in the American economy…to tackle what I think is the biggest challenge in the American economy, which is the lack of opportunity that so many American households suffer through, and to change the hopefulness and aspiration they have for their children.” Shah sat down with ImpactAlpha at last month’s SOCAP conference in San Francisco.

Kresge and Rockefeller identify opportunity fund managers for grants and support

In the 8,700 designated census tracts across the U.S. eligible for investments from tax advantaged “opportunity funds,” impact investors have the opportunity to connect their impact strategies to a broader group of people who have capital. “We have an opportunity to bend the curve and ask ourselves, ‘Can we take risks and experiment and use this policy change to address this challenge?’”

When the Rockefeller and Kresge foundations put out a call for opportunity fund managers intentionally seeking positive outcomes in low-income communities, they received some 150 proposed impact-driven funds seeking to raise up to $12 billion. The foundations aim to increase the chances of successful experiments with up to $25 million in grants and guarantees.

“In a political environment where there’s more acrimony than consensus,” he says, ‘I feel like we’ve got to take the shots on goal we have and make them the best shots we can take.”

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ImpactAlpha: How are you thinking about Opportunity Zones now that the regulations have been published?

Raj Shah, Rockefeller Foundation: I continue to think this is a pretty significant incentive for driving investment into low-income communities in this country. When we look at the nature of opportunity in America, 40 years ago or 50 years ago, if you were born at that time, there’s a 90% chance you did better than your parents. After, say, the last 20 years until today, it’s less than 50%. Similarly, if you were born into poverty back then, there was a 50% chance you’d end up with the middle class. Today, it’s half of that. It’s about 26%.

There’s no question that mobility, opportunity, new business starts, the entrepreneurial economy have declined over the last decades. And there’s also no question that the vast majority of the gains of the economy since the financial crisis have gone to a very narrow slice of the population. When you map it, you see that all of that growth is largely concentrated in this Metropolitan Statistical Area (the Bay Area) and maybe three others. And if you pull that out, the rest of the picture looks extraordinarily dire. In places that have been in economic stagnation, you’ve seen the lack of hope and the disintegration of society that comes with that lack of economic opportunity.

Opportunity zone regulations could spur small business investing

So, we became very convinced that place-based economic development and place-based creation of opportunity was a big part of what we need to do to rekindle the American Dream for more Americans. The Opportunity Zones that have been designated, more than 8,700, have targeted the places in need. They have an average minority population of Hispanic-Americans, African-Americans, of 54%; an average poverty rate of more than 30%; an average unemployment rate in this economy of more than 12% – so, three times the national average – and much lower asset prices and everything else that would go along with that.

So, the targeting worked in terms of identifying census tracts that have been characterized by high levels of need, and vulnerability, and the lack of growth and mobility. And now, we’re starting to see a lot of fund formation to put resources and capital to work in those places.

A lot of people said, and I was one of them, that this is going to initially be all real estate. Of the 150-plus proposals that came in, 40% are not real estate. There’s small business. There are mixed-use projects. They are a collection of operating businesses that are different than just real estate. So, that diversity was nice to see. Obviously, we’ve self-selected people who want to be more impact-oriented. So I still think the big first wave will be real estate. But, you know, the size of the funds we saw came in at between $5 million and $250 million. And with a little bit of modeling across our population of applicants, they have a headline total of about $12 billion.

I was talking to (Napster co-founder and early Facebook investor) Sean Parker earlier this week. He believes the total headline value of all the funds is somewhere between $20 and $30 billion. So, that’s a massive scale to put to work against a population of about 30 million people that live in the designated Opportunity Zones across the country. So, there’s real fund-formation taking place. The funds are more diversified than just real estate.

ImpactAlpha: Is it impact investing?

Shah: We learned a lot in the proposals that came back in about how people want to measure impact in terms of job creation, worker mobility, asset values, and the like, and a range of other new business starts, small business growth. A lot of the proposals came from CDFIs that are looking to have more capital to put to work with others, which has been independently one of the focus areas that our zero-dev team has worked, as you know.

Opportunity zone regulations could spur small business investing

So, how do you take the concept of impact investing from a group of people who are super committed, to a much broader group of people who have more capital together? To me, the Opportunity Zones are the biggest experiment today in the American economy to develop a mainstream market-rate return investment portfolio that allows us to tackle what I think is the biggest challenge in the American economy, which is the lack of opportunity that so many American households suffer through and change the hopefulness and aspiration they have for their children.

ImpactAlpha: I thought when you asked, How do you mainstream it? That you were going to say, Give them a big capital gains tax break.

Shah: Yeah. And this is a massive tax expenditure on behalf of our federal government. So, we should study what works and know what doesn’t. We should evaluate the net impact of this whole project to see, Did it really lift people up or did it just push people out? And, as part of the philanthropic community, we’re working with the US Impact Investing Alliance and 17 to 18 other foundations, and saying, “Let’s, together, set some standards, so we can evaluate both intention and performance of these types of funds as they get formed,” in part because there is not the usual policy construct around this particular regulatory change.

ImpactAlpha: When people talk about comprehensive or holistic community development, there’s small business and there’s real estate, but there’s also services and entrepreneurship support and all kinds of things that the Opportunity Funds may not be able to bite off…

Raj Shah: Yeah, that’s true. The vast majority of funds that are applied in the cross-team partnerships are highly localized and very project-specific. And then, some subset of them really are a reflection of the local economic development plan with all of its intended public-private partnerships. Places like Louisville, Oakland, Detroit are doing a better job of that than others, but that’s part of it.

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ImpactAlpha: Is there going to be some way to incentivize those more comprehensive ideas versus the more narrow project ideas?

Shah: That’s the purpose of the cross-team partnerships. The funds that we believe, in consultation with our partners, are more targeted or are embracing best practices around community development and impact for local families, those are the ones we want to preferentially support with first-loss guarantees, philanthropic capital placement of funds, development of local partnerships to accelerate their performance from a social impact perspective.

ImpactAlpha: Your commitment was $25 million. Are other funders doing what you’re doing?

Shah: Yeah, there are. Right now, dozens. And, over time, I think, hundreds and even more of community foundations, corporate foundations, and philanthropic institutions that would participate. And by the way, the best – well, I shouldn’t say the best – but the more proactive governors and mayors are doing that with their own resources. And that’s exactly the right thing to do – to create that collaboration of capabilities that ensures that a real estate, a mixed-use, or operating business investment lifts up as many people in that local community as possible.

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ImpactAlpha: What are you seeing in the way of structures of the funds themselves? There’s this idea that the funds themselves could be a community-wealth building power tool. Is anybody thinking about that?

Shah: People have. In the proposals that came back, only a very small subset had serious employee stock ownership and capital distribution. So, right now, we haven’t seen a lot of movement in that space, but we should. This is the biggest impact investment experiment we have in America right now. And, I think, those of us with risk capital should take risks to try to get more people to test those types of strategies.

ImpactAlpha: This is kind of the US ante-ing up for the Sustainable Development Goals. If we’re going to make progress in the U.S. on the Sustainable Development Goals, isn’t it going to be through something like this Opportunity zone mechanism?

Shah: That’s debatable, I guess. I tend to believe you, but others could debate that…This is median wealth in America. The median total wealth, right. I mean, to me, that tells you a lot what you need to know.

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ImpactAlpha: You stated the problem very well. What I think there’s a lot of skepticism about is whether Opportunity Zones will actually –

Shah: – solve this problem…I would say, first, when you look at the scale of investment relative to New Markets Tax Credits or the Clinton-era Empowerment Zones, they are larger in this situation than those. The structure of the programs are very different, but this is a big test…At the outset, it’s at least at that scale, and it could be much larger. And I think we have an opportunity to bend the curve and ask ourselves, ‘Can we take risks and experiment and use this policy change to address this challenge?’ I think that’s why your point about deficits, ownership, capital distribution, and other such strategies feels like it should be a part of the big experiment here. We’re not seeing it yet, but it should be.

ImpactAlpha: There’s a certain skepticism that Opportunity Zones elicit. That it’s a way to take all the capital gains out of the market and not pay taxes on them.

Shah: Here’s the thing: No one pays taxes on them anyway. The people who are going to do this weren’t going to just pay taxes. They put this money in trusts, put this money in inheritance structures.

ImpactAlpha: So, it’s diverting it from other tax breaks?

Shah: You just look at the rate. If you talk to any head of tax law at (the big law firms), they’d say there are many such opportunities to shield capital gains for tax exposure. This is just one of many, but it directs the capital to a place where it can be deployed to have a particular other purpose. And the jury is and should be out on whether this thing works until we figure it out.

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ImpactAlpha: Last question, because of your USAID background and also the international examples in the (Rockefeller Foundation’s) Zero-Gap portfolio, is there anything from the international experience that’s useful in the Opportunity Zone case, or Opportunity Zone lessons that might be useful in other countries?

Shah: I mean, place-based economic development driven by public/private partnership and aided by tax preference has worked in many, many parts of the world. If you look at the Growth Commission report, it’s probably 10 years old, chaired by Michael Spence, a Nobel Prize-winning economist. His description of Singapore and the growth of Southeast Asia, in a much more nuanced way than just national statistics, is driven by that concept: place-based, industry-specific, public-private, aided by tax preference and trade preference. And if you look at Rwanda, parts of Ethiopia, certain parts of South Africa, environments that are not commodity-based growth in African economies, it’s modeling some of those strategies.

So, is it a stretch to say this is that strategy applied to the US in places where there is stagnation? Probably, because this doesn’t have the public-private part as deeply integrated. It has the private part. But it’s a start. And, frankly, in a political environment where there’s more acrimony than consensus, I feel like we’ve got to take the shots on goal we have and make them the best shots we can take.

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