Abstract:We propose a model for the joint evolution of European inflation, the European Central Bank official interest rate and the short-term interest rate, in a stochastic, continuous time setting.We derive the valuation equation for a contingent claim depending potentially on all three factors. This valuation equation reduces to a finite number of Cauchy problems for a degenerate parabolic PDE with non-local terms. We show that the price of the contingent claim is the only viscosity solution of the valuation equatio… Show more
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