I remember a faculty meeting during my first year as provost when President Shirley Tilghman told the assembled professors that the team at the Princeton University Investment Company (PRINCO) had achieved 18% returns in the preceding year. An audible ripple of elation passed through Nassau Hall’s faculty room. I am sure that some of the faculty members were counting on an 18% increase to their budgets. But that is not the way that the University’s endowment works.

To begin with, much of the endowment is subject to restrictions, so that its proceeds may only be used for specified purposes. A few academic units are fully endowed; most benefit from a combination of restricted endowment and other dollars; and some are entirely dependent on central support. As a result, the endowment’s performance benefits some University budgets more than others.

Even significantly endowed units will not feel the impact of strong investment returns immediately. Like most universities, Princeton has a spending policy that regulates the flow of funds from the endowment into the operating budget. One aim of the policy is to smooth out the volatility of investment returns. Markets might rise 18% in one year and then drop 2% in the next. If endowment income ebbed and flowed with the market, the University could find itself undergoing disruptive cycles of expansion and contraction, hiring people in one year and laying them off in the next.

Our spending policy serves to provide budgetary stability, but even more important, it is designed to ensure intergenerational equity. It would be inappropriate for Princeton to spend so much today that it could not offer comparable opportunities to later generations of students and researchers. And conversely, it would be inappropriate to deny new opportunities to Princetonians today in order to focus exclusively on their successors.

We have a long-standing guideline for determining precisely how much of the endowment’s earnings goes into the operating budget and how much is reinvested for the future. This “spending rule” is carefully monitored and periodically adjusted by the Board of Trustees. As a result, the endowment’s contribution to the budget increases at more or less the same pace as inflation, and University programs receive consistent funding whether the markets perform well or badly.

In lean economic times, this arrangement minimizes the constraints that we have to put on our budget. In multiple years of high returns, upward adjustments give Princeton opportunities to fund new strategic initiatives. For example, in 2001 the Trustees used funds generated by a spending rule change to pay for the University’s revolutionary “no loan” financial aid policy. Earlier spending rule changes were deployed to establish a renovation fund that enabled the University to preserve its campus and ensure that it would remain an attractive and comfortable home for new generations of students. It is only through these periodic adjustments—or new gifts from alumni, parents, and friends—that Princeton can advance boldly and swiftly.

The University has been fortunate for the past three decades, benefiting from a period of economic expansion and the extraordinary generosity of Princetonians. This generosity is built on the trust our donors have in our vital academic mission, our prudent administrative practices, and our careful stewardship of the endowment. It is our fiduciary responsibility to ensure intergenerational equity, whatever challenges lie ahead.

As President Tilghman has often observed, Princeton’s legacy, crafted over many generations, must not only be cherished and protected, but also built upon as a foundation for new achievements.