How to Squander Your Endowment: Pitfalls and Remedies

43 Pages Posted: 11 Oct 2021 Last revised: 3 Nov 2021

See all articles by Philip H. Dybvig

Philip H. Dybvig

Washington University in St. Louis - John M. Olin Business School

Zhenjiang Qin

University of Macau

Date Written: October 11, 2021

Abstract

University donors can contribute to endowment to make a permanent impact, given that universities are committed to investment and spending policies that preserve capital. Unfortunately, practitioner's common criterion of spending less than the expected return on endowment is known not to be sufficient to preserve capital, and we show that smoothing spending is destabilizing and exhausts wealth in finite time. These problems can be corrected even if the expected real return can go negative. We also show that compounding may neutralize the preservation-of-capital constraint in optimization models, and we discuss formulations in which preservation of capital retains its bite.

Keywords: University endowment; Spending; Capital preservation; Destroying capital; Moving average; Smooth spending; Smooth consumption; Permanent contribution

JEL Classification: G11; G23; L31

Suggested Citation

Dybvig, Philip H. and Qin, Zhenjiang, How to Squander Your Endowment: Pitfalls and Remedies (October 11, 2021). Available at SSRN: https://ssrn.com/abstract=3939984 or http://dx.doi.org/10.2139/ssrn.3939984

Philip H. Dybvig

Washington University in St. Louis - John M. Olin Business School ( email )

One Brookings Drive
Campus Box 1133
St. Louis, MO 63130-4899
United States

Zhenjiang Qin (Contact Author)

University of Macau ( email )

Macau
China

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