Do with this information what you will (since it seems completely out of line of where the conversation seems to want to go), but here are some observations from real life experience with an actual (small) trust that is more or less set up like the trust the OP speaks of. I'm not expert. I've just had conversations with the corporate trustee from time to time about why the investments are managed the way they are. Unlike me, Gill is an expert who has seen lots of trusts, so pay more attention to what he says that what I say.
In the case of the trust I know, the income beneficiary gets the income. There are remainderman beneficiaries that get what's left after 2 generations are skipped. A difference is that the income beneficiary (rather than a remainderman) is a co-trustee with a corporate trustee/investment manager.
In any case, the corporate trustee/investment manager seems to operate mostly under assorted state laws that govern investment possibilities. (After 4 or 5 mergers/acquisitions/take-overs over the decades, the corporate trustee/investment manager is currently the trust department of one of the massive too-big-to-fail banks.) In a legal sense, as far as I've seen, trustees aren't left to their own devices nearly as much as the above discussion seems to assume. With the caveat that laws vary from state to state. And with the caveat that enforcing law on a straying or deliberately uncooperative trustee (especially an individual one) requires lawyers and courts, which is very expensive.
My non-expert understanding:
When the trust came into existence in the 1950s it was governed, I think, by the Prudent Man Rule (see wikipedia "Prudent Man Rule"). (Parts of the conversation above (e.g. "maybe it should all be put in TIPS") seem to want to think like the Prudent Man Rule.)
But times and the investment landscape changed, and problems arose with trusts governed under the Prudent Man Rule (Prudent Man Rule tended to lead to very conservative investment portfolio (e.g. lots of US Treasuries and very little stock) that led to a joke: "How do you make a small fortune? Give a bank a large one to manage in trust." ( e.g., p. 1 of http://www.law.harvard.edu/programs/oli ... ff_580.pdf
So in 1992 the Uniform Prudent Investor Act came along to replace the Prudent Man Rule and govern the investment decisions of trustees, and most states have adopted some version of it. (See wikipedia "Uniform Prudent Investor Act"). Diversification, total return, and Modern Portfolio Theory became the focus of portfolio management fiduciary duty for trustees. As a corollary, I think, to the "diversification" aspect, the corporate trustee I deal with tends to get all hot and bothered about investment "concentrations" (although they have vaguely cited OCC regulations as being the source of their botheredness, rather than the Prudent Investor Rule law per se. But I've never been able to pin them down on exactly where they are getting their "concentration" definitions so that I can go read it myself.). E.g. According to them, the trust portfolio can't hold more than 10% of its assets in any one actively managed fund. They used to say no more than 25% in any one broadly diversified index fund (e.g. Total Stock Market Index or S&P 500 Index), although they seem to have backed off on that recently. (Relating this to the above discussion: this corporate trustee would say that the law doesn't allow more than 10% of portfolio in something like Vanguard Wellesley. Although they do get kind of slippery/vague when you try to pin them down on exactly which law says that.)
But then the Uniform Investor Act led to trustees often being conflicted between the Prudent Investor Rule's focus on total return and their "income goes to income beneficiary" duties, so most states have, I think, in the late 1990s to early 2000s adopted Power to Adjust and associated Unitrust laws that grant some extra options and set parameters on how trustees can balance between the two requirements.
State versions of the Uniform Principal and Income Act govern how various expenses and cash flows (e.g. short/long term capital gains) are allocated to principal and income.
Yet other state laws (Surrogate Court law in the state where the trust I am familiar with is located) set yet more parameters on what trustees can or can not do, e.g. how much their fee can be and how the fee is allocated between principal and income.
Again, I am not a lawyer. Gill is/was. Just some things I think I have pieced together from dealing with the corporate trustee/investment manager over the years. My take-away is that many of the topics that are being debated above have largely already been addressed by trust & estate law in many/most states.