The Business of Charity

You know, sometimes I get a bit tired of columnists who (uncritically) read a book, decide it has the answers to some or all of the world's problems, then pen a column espousing the book's thesis. It's not as bad as stenography of the latest party memo, but generally speaking it's a path to a weak column.

Nicholas Kristof recently read a book by a failed businessman, Dan Pallotta, lamenting how after he raised a ton of money for some wealthy charities he was cast aside. Kristof makes a huge assumption, that the reason Pallotta's company failed was his salary:

But Mr. Pallotta’s company wasn’t a charity, but rather a for-profit company that created charitable events. Critics railed at his $394,500 salary - low for a corporate chief executive, but stratospheric in the aid world - and at the millions of dollars spent on advertising and marketing and other expenses.

Kristof then wrestles, in a peculiar way, with the question of whether higher salaries for the leaders of charities would lead to better or worse results:

I also worry that if aid groups paid executives as lavishly as Citigroup, they would be managed as badly as Citigroup.

Is that the issue? Pallotta worked with the Avon Foundation. Did Kristof call Avon and ask, "Does the person who heads your multi-million dollar charitable trust earn $400,000 or more?" Does he know that the CEO of the Red Cross earns more than $500,000 per year? That the President of the United Way has a salary of about $400,000 in compensation and an expense allowance (plus benefits), but pulled in an additional $800,000 in bonuses in 2007? $1.2 million isn't sufficiently "corporate" compensation? Here's where I'll give Pallotta his due - he was innovative, and shifted the ground for large charitable fundraising events. Have you noticed that the United Way has done anything particularly different or innovative that would justify the huge bonuses "earned" by its president? If so, it has occurred way below my radar.

Sure, it may raise people's hackles that charities are paying their executives astronomical bonuses, but despite some brief negative publicity the United Way hasn't failed. So perhaps we should take a step back, and consider why people give to charity? By spending few minutes on Google, Kristof would have come up with this interesting case study:

When the individual gives money to a charity, no product or service is necessarily provided to them. What the individual purchases is much more ethereal. A contributor to charity receives a sense of reward, self-satisfaction, pride, or deeper purpose from the act of giving. Donors receive the pleasure of altruism as the product of their economic transaction.

The pleasure of altruism is the product supplied by charities. For example, a dollar given to a homeless person on a street corner might buy a small amount of altruistic pleasure, but a million dollar grant to find a cure for AIDS might buy much more. The homeless person and the AIDS cure charity provide different altruistic pleasures. You may not know the homeless man, but you may know someone who has or has died from AIDS. Or perhaps the opposite is true. But such a personal connection is just one example of how a charity creates differentiation among the many suppliers of altruistic pleasure. We most often correlate a charity’s purpose with its worthiness, and therefore with the quantity of altruistic pleasure it can provide.

Here is where the traditional Neo-classical view of markets begins to fall apart. The charity market is not a perfectly competitive market that balances the supply of worthy causes with the demand for altruistic pleasure because no two worthy causes are the same. While the supply of worthy causes is practically infinite, the market is highly differentiated. One cause may be deemed more worthy by more people, create more altruistic pleasure, and therefore receive more funds than its competitors. Price is not the primary means by which the resource of altruistic pleasure is allocated.

Pallotta's company, Pallotta TeamWorks (PTW), was truly innovative in maximizing the altruistic pleasure felt by participants in its events - and then it dropped the ball. Their innovation was in designing targeted events

tailored to elicit the extreme emotions of altruistic pleasure.... such as biking across a dessert to support AIDS charities or walking 60 miles for three days in the footsteps of breast cancer survivors. The events supported people in doing things that they never achieved before in the name of a worth cause, a desirable vehicle for acquiring altruistic pleasure.

They used sophisticated marketing to communicate to participants "the altruistic pleasures that could be received" through participation in an event. They also provided front-to-back support for participants, to help them succeed first in raising a substantial amount of money required simply to enter the event, and carrying through equipment purchases, training, and support during the event itself.

And at the event, PTW created mobile cities in which the participants ate, slept, and most importantly, intermingled with others inspired to champion the same cause. Through such support PTW was able to keep existing participants involved in future events while continuing to attract new ones. “The organizations that are going to survive and effectively provide services,” says Terje Anderson, executive director of the National Association of People With AIDS, “are going to be the ones that figure out ways to market themselves to new private donors and, at the same time, successfully keep their old donor base”

Although none of these ideas were new, Pallotta's innovation was in bringing them together and creating more efficient fundraising processes. If a charity could afford his services, for a flat fee he would provide them with soup to nuts support for their event - they needed no experience or expertise. The only requirement was that they pay his seven figure event planning fee. And while there were events that were not successful, most of Pallotta's events returned considerably more than his fee.

By 2001, PTW’s ideas, people, and competitive fundraising events were creating real economic growth. PTW’s charities had received more than 3 million donor contributions, equal to more than 1% of the US population (Pallotta TeamWorks 2002, p. 30). But in 2001 PTW’s fundraising numbers began to decline and its participants began dropping out. PTW carefully designed an attractive set of attributes, created a higher value product, and lowered transaction costs for their market by reaching a huge audience. So where did the firm go wrong?

The article suggests that PTW's success depended upon "participants’ approval and excitement over the emotional, engaging way that the firm produced money for charity". Early events returned an average of about 67% of the proceeds to charity, but by 2000 that amount had dropped to about 53%, raising concerns about PTW's management of funds. An alternative theory that, to me, seems more intuitive is that annual events were starting to burn out their participants and their participants' sponsors, and may have started to seem like "the same old thing" rather than a new and cool thing you could do for your charity. But no question, when the money stops rolling in, people start looking at the money trail - and that's where a salary that may have been an irrelevancy a year or two before can suddenly seem excessive. And there is no question that, for example, participation levels for Avon's breast cancer walks were dropping. Low participation makes the high cost of these events seem unwise - for the 2002 D.C. AIDSRide, it's reported that 86% of the proceeds went to overhead and expenses.

Pallotta also started to heavily cross-market his own company and, reportedly, other PTW events:

PTW began cross-marketing events for other new events and causes to existing participants using slick brochures, kiosks, and infomercials disguised as safety videos. Event participants “saw Pallotta merchandise, like books by the company’s founder, all along the route” (Winters 2002). T-shirts, sweatshirts, and other collateral were hawked to participants, all trumpeting the PTW brand, not the cause. A former PTW employee and event participant complained that the AIDSRide events “became a Pallotta TeamWorks event, and they stopped even talking about AIDS” (Freiberg 2002). To event participants the PTW brand smacked of commercialism and obstructed their access to the real product, the pleasure of altruism.

(PTW reportedly denies cross-promoting other events at its 3-day events.) This opened the door to criticism and skepticism of PTW and its integrity, ultimately causing its flagship partners to fire PTW. There are a couple of lessons here that Pallotta and Kristof seem to have missed:

Participants didn’t care that PTW was the brand producing the altruistic pleasure. They cared about the means of how it was produced and the quality of that product. As Peter Drucker reminds us, quality “is not what the supplier puts in. It is what the customer gets out and is willing to pay for”

In other words, Pallotta stopped producing the product his customers wanted. And in that respect, PTW was like any other business - if you can't sell the customer what she wants, you'll fail.

The case study goes on to describe some of the economics of scale produced by Pallotta's massive events, and how some charities managed to generate millions of dollars in donations (despite marketing costs approaching 60% of revenues) while more "cost-efficient" traditional fund-raising might have only raised a fraction of that amount. This brings me back to Kristof's piece, in which he observes, "It’s notable that leaders of Oxfam and Save the Children have publicly endorsed the book". No, it's not particularly notable, at least when you get past the notion that Pallotta's innovation was his own salary as opposed to his emphasis on effective marketing and his desire to get away from efficiency as the best measure of charitable success.

Oxfam and Save the Children spend a lot of money on marketing. At the same time, their charitable ratings depend upon their keeping their administrative and fundraising expenses low as compared to the money they apply to their programs. A multi-million dollar investment in marketing might bring in tens of millions of dollars in new donations - but could drag down their efficiency ratings and turn off or scare away another set of potential donors. Charity ratings sites often list, right along with the charity you're evaluating, a series of similar charities - it's easy to find one with a better efficiency rating, and to direct your money to that charity instead. A big part of Pallotta's failure might be attributed to the rating standards of the Better Business Bureau:

The BBB had issued more stringent guidelines, which became effective in 2003. Prior to 2003, CBBB standards limited fund-raising expenses to 50% of related donations (Heaney 2003). The Avon 3-Days historically averaged fund-raising costs close to 40% of total donations through 2001 (PTW 2001), complying with watchdog group guidelines. In 2003, the NCIB and the CBBB merged, forming the BBB Wise Giving Alliance. A new standard required fund-raising expenses to be no more than 35% of “related contributions” (BBB 2006a). This meant that Avon Foundation’s historic average level of performance would no longer be good enough to comply. Another standard called for program spending to exceed 65% of total expenses.

The trend of the Avon events’ fund-raising ratio going into 2003 was not good. In 2001, in part because of disruption caused by the September 11 attacks, the fund-raising ratio had risen from 36% in 2000 to 43%. The 2002 event season had some unusual costs related to the shut-down of PTW in August (Avon 2002), and the fund-raising ratio rose to 49% of related donations. Program spending as a percent of total expenses was only 41%, far below the 65% level specified by the BBB.

Yet it appears that part of that warm, altruistic feeling many people get from making donations arises from the knowledge that only a small part of their contribution will go to administrative costs and marketing. While this is a bit different than the environment for a traditional business, within the world of charitable giving it's something that's not likely to change. The lesson that Oxfam and Save the Children might draw from Pallotta's experience is that by providing a good altruistic experience you can push marketing and administration costs past the 30% level, but as they approach 50% you can expect the backlash to begin. As Pallotta can no doubt attest, that can turn into a microscopic examination of everything you do by the people who feel that you took advantage of your altriusm. Seemingly overnight, you can go from being seen as a helpful symbiote to being perceived as a destructive parasite.

Meanwhile, six years after his business failed, other than marketing himself, what's Pallotta offering to the rest of the world?

Kristof concludes with a couple of stories about how capitalist enterprises can return social utility. This, apparently, surprises him. He describes how a consulting firm helped Rwanda improve its public image in the United States, and significantly increase the price of Rwandan coffee and tea. He also describes how a Nigerian businessman is making money installing pay toilets - he rents, leases and sells port-a-potties. I'm not sure why this would surprise anybody - or why Kristof would see the return of social utility as the province of a charity as opposed to a business. I get my electrical, phone and gas service from profit-making utility companies - I get great benefit from those services, but none of the providers are charities. Furthermore, if there's money to be made and free market forces will result in the spread of a good in a manner equivalent to or better than that which could be achieved by a charity, the charity should invest its efforts and resources elsewhere.

A Clash Of Faiths

On one side, the inimitable Michael Gerson,

But compassionate conservatism has come under criticism for a variety of reasons. For some, it is fundamentally at odds with fiscal conservatism -- no social priority is deemed more urgent than balancing the budget. For others, it is a violation of their vision of limited government -- the state's only valid purpose is to uphold markets and protect individual liberty. But by drawing these limits so narrowly, such critics would relegate conservatism to the realm of rejected ideologies: untainted, uncomplicated and ignored. And by leaving great social needs unmet, they would grant liberalism an open field and invite genuine statism.

On the other side, (sort of) free market advocacy from Daniel Larison:

How tiresome it is to hear that “social needs” are unmet because government is not involved in meeting them, or that government must be involved if those needs are, in fact, unmet. If they’re unmet, they’re probably unmet because someone whining in the name of “compassion” forty years ago complained that the government wasn’t doing enough, so the state usurped the proper social functions of existing institutions that have since withered and died from neglect and lack of support, and now all we are left with is recourse to still more government.

A big part of the problem with "compassionate conservativism" is that it was a lie from day one, with perhaps Michael Gerson being the only living person not to have come to terms with that fact. The term represents typical G.W., attempting to depict himself as a centrist who will reinvent the social safety net to help people climb out of poverty, coupled with a promise to dole hundreds of millions (perhaps billions) of federal dollars into religious organizations. He didn't mean the first part and, as far as I can see, for G.W. the second part was solely about getting votes. I've seen no evidence that G.W. cares about the efficacy of vouchers (and in fact "No Child Left Behind" and voucher programs appear calculated to prevent direct comparison of public schools to private schools, by doling out money to private schools while exempting them from NCLB's testing requirements and standards).

But what of Larison's cult of the free market? What social support network is he imagining, flourishing some forty years ago, but that has now disappeared? It's a fiction presented as fact.

That's not to say that the government has not stepped into places where charities, particularly religious charities, once dominated. Counties offer free and discounted medical care that one might have historically received through a hospital founded by a religious group. Poor people get food stamps (or should I say an EBT card) rather than queueing outside of the Salvation Army offices or some other soup kitchen. Housing subsidies and government funded shelters have largely replaced charitable shelters.

But when you look at why this happened, it was due to the failure of private and religious charities to meet the needs of an industrialized society. Giving full respect to the significant charitable efforts made by many people and organizations before the dawn of the so-called "welfare state", there was no glory day when the needs of all of the nation's poor were well-met by charity. Religions and charities did not shutter workhouses and orphanages, in favor of keeping families together. Religions and charities did not bring about universal public education. Religions and charities still do operate hospitals - but for most of us, the bill isn't any smaller than it would be at a private or public hospital, and they would be overwhelmed and bankrupted if they were to open their doors to the nation's poor with no charge and without requesting reimbursement through Medicare and Medicaid. Moreover, the government can administer programs evenly across states or the entire nation, where charities did not and cannot. In short, we're dealing with two issues: The fact that the world Larison depicts as an ideal never existed (and never will), and the fact that society has changed from the days when charities and religious organizations could partially fulfill the needs now served by government.

The question of whether it is better to serve up charity with a religious sermon or a dose of shame, or if it is better to leave charity to hands that can deny relief to people deemed "undeserving" (whether because they're not seen as making a sufficient effort, or because they're of the wrong faith or perhaps even ethnicity) is apart from the question of whether private charities and religions could take the place of public social assistance in a modern industrialized society. They cannot. You want to talk about ending dependence? I'm all ears. But it's a separate issue.

Gerson seems to recognize the failure of non-state actors, arguing that fiscal conservatives, "by leaving great social needs unmet, ... would grant liberalism an open field and invite genuine statism." Where he devolves into the comical is in the idea that the "alternative" is for state and federal governments to tax their citizens then pass the money along to third parties to administer in a "charitable" manner. There's no evidence presented, nor argument given, that this approach saves money, increases efficiency, or reduces dependency.

Larison objects to the continuation of dependency, arguing,

However the program or initiative is designed, it will always be another form of dependency and another means to concentrate power in the state by creating these bonds of dependency on government initiatives. How insulting to listen to someone who has never blinked at proposing spending other people’s money on the problems of people he has never met mock fiscal responsibility, and then claim that those interested in the profoundly moral effort to not pass on our debts to our posterity supposedly believe that balanced budgets are the top “social priority.” What is Michael Gerson’s top social priority? It seems that gratifying his undying need for atoning vicariously through good works that he isn’t doing that are paid for by wealth he isn’t creating in places he will never go is his top priority, and woe betide the moneychangers who block him on the path of righteousness!

Well, a big part of the problem probably starts with turning this into a religious debate, dictated by unseen forces emanating from our WWJD bracelets. The fact is that as long as there have been churches, there have been collection plates. Shall we discuss tithing, which at times and places in history was little different from a tax? What churches offered straw polls to let people decide where and how they spent the collected money? Save for individual efforts and those of small groups, something that cannot take the place of large-scale social programs, this has always been about paying money to third parties who decide if and how it will be expended for the benefit of the poor.

The dichotomy Larison implies - and it's a false dichotomy - is that we have a choice between balancing the budget and providing public assistance to the poor. We can also balance the budget by increasing taxes or cutting other areas of spending. So if we're going to speak of a "profoundly moral effort to not pass on our debts to our posterity", we must ask why the most "moral" solution is to put social spending on the chopping block, while preserving current levels of corporate welfare, military spending, and those provisions of the tax code that are exceedingly favorable to the rich, or instead of raising taxes to cover the difference. Larison argues,

Instead of a supposedly libertarian Christ, Gerson offers us Christ the social worker, which is an appropriation every bit as unpersuasive as the other caricatures he rejects, and the disciples of this social worker have an unerring ability to be extremely annoying.

You can make a strong libertarian case for prioritizing a balanced budget and cutting social welfare benefits first, but spare me any argument that it's dictated or even supported by Christ's teachings.