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  5. Sustainability in a Risky World

American Economic Review: Insights

ISSN 2640-205X (Print) | ISSN 2640-2068 (Online)

Sustainability in a Risky World

  • John Y. Campbell
  • Ian W. R. Martin
American Economic Review: Insights (Forthcoming)

Abstract

How much consumption is sustainable, if "sustainability" requires that welfare should not be expected to decline over time? We impose a sustainability constraint on a standard consumption/portfolio choice problem. The constraint does not distort portfolio choice, but it imposes an upper bound on the sustainable consumption-wealth ratio, which must lie between the riskless interest rate and the expected return on wealth (and if risky capital evolves according to a geometric Brownian motion, it lies exactly halfway between the two). Sustainability requires an upward drift in wealth and consumption to compensate future generations for the increased risk they face.

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