Spending Like You'll Live Forever

Abstract

A sound policy for spending wealth over time is as important as a sensible investment policy. It's a complex problem for taxable individuals with finite, uncertain longevity. A good start is thinking about the simpler problem of how one would spend if immortal. This is exactly the real problem faced by endowments, foundations and other long-lived pools of capital. In this article, we will explain and apply a framework first proposed by Robert C. Merton (1969) to this problem. We will also discuss the important and fascinating result that, under most reasonable sets of assumptions, it is optimal to spend substantially less than the expected real return of the endowment's investment portfolio. We will also give a summary description of some of the key extensions of this model since first introduced.