A mean-reverting stochastic model for the political business cycle

In this article, we look at the political business cycle problem through the lens of uncertainty. The feedback control used by us is the famous NKPC with stochasticity and wage rigidities. We extend the New Keynesian Phillips Curve model to the continuous time stochastic set up with an Ornstein-Uhlenbeck process. We minimize relevant expected quadratic cost by solving the corresponding Hamilton-Jacobi-Bellman equation. The basic intuition of the classical model is qualitatively carried forward in our set up but uncertainty also plays an important role in determining the optimal trajectory of the voter support function. The internal variability of the system acts as a base shifter for the support function in the risk neutral case. The role of uncertainty is even more prominent in the risk averse case where all the shape parameters are directly dependent on variability. Thus, in this case variability controls both the rates of change as well as the base shift parameters. To gain more insight we have also studied the model when the coefficients are time invariant and studied numerical solutions. The close relationship between the unemployment rate and the support function for the incumbent party is highlighted. The role of uncertainty in creating sampling fluctuation in this set up, possibly towards apparently anomalous results, is also explored.

Applying pure mathematics: mathematics in the natural sciences

The book of nature is written in the language of mathematics. This quotation, attributed to Galileo, seemed to hold to an unreasonable1 extent in the era of quantum mechanics.

A playful side to twelfth-century mathematics

As editors of the book Lilavati's Daughters: The Women Scientists of India, reviewed by Asha Gopinathan (Nature 460, 1082; 2009), we would like to elaborate on the background to its title. Lilavati was a mathematical treatise of the twelfth century, composed by the mathematician and astronomer Bhaskaracharya (1114–85) — also known as Bhaskara II — who was a teacher of repute and author of several other texts. The name Lilavati, which literally means 'playful', is a surprising title for an early scientific book. Some of the mathematical problems posed in the book are in verse form, and are addressed to a girl, the eponymous Lilavati. However, there is little real evidence concerning Lilavati's historicity. Tradition holds that she was Bhaskaracharya's daughter and that he wrote the treatise to console her after an accident that left her unable to marry. But this could be a later interpolation, as the idea was first mentioned in a Persian commentary. An alternative view has it that Lilavati was married at an inauspicious time and was widowed shortly afterwards. Other sources have implied that Lilavati was Bhaskaracharya's wife, or even one of his students — raising the possibility that women in parts of the Indian subcontinent could have participated in higher education as early as eight centuries ago. However, given that Bhaskara was a poet and pedagogue, it is also possible that he chose to address his mathematical problems to a doe-eyed girl simply as a whimsical and charming literary device.

Cost Sharing Mechanisms for Business Clusters with Strategic Firms

A business cluster is a co-located group of micro, small, medium scale enterprises. Such firms can benefit significantly from their co-location through shared infrastructure and shared services. Cost sharing becomes an important issue in such sharing arrangements especially when the firms exhibit strategic behavior. There are many cost sharing methods and mechanisms proposed in the literature based on game theoretic foundations. These mechanisms satisfy a variety of efficiency and fairness properties such as allocative efficiency, budget balance, individual rationality, consumer sovereignty, strategyproofness, and group strategyproofness. In this paper, we motivate the problem of cost sharing in a business cluster with strategic firms and illustrate different cost sharing mechanisms through the example of a cluster of firms sharing a logistics service. Next we look into the problem of a business cluster sharing ICT (information and communication technologies) infrastructure and explore the use of cost sharing mechanisms.

Mathematics, nature and cryptography: Insights from philosophy of information

One influential image that is popular among scientists is the view that mathematics is the language of nature. The present article discusses another possible way to approach the relation between mathematics and nature, which is by using the idea of information and the conceptual vocabulary of cryptography. This approach allows us to understand the possibility that secrets of nature need not be written in mathematics and yet mathematics is necessary as a cryptographic key to unlock these secrets. Various advantages of such a view are described in this article.

Pricing Defaultable Bonds in a Markov Modulated Market

We address the problem of pricing defaultable bonds in a Markov modulated market. Using Merton's structural approach we show that various types of defaultable bonds are combination of European type contingent claims. Thus pricing a defaultable bond is tantamount to pricing a contingent claim in a Markov modulated market. Since the market is incomplete, we use the method of quadratic hedging and minimal martingale measure to derive locally risk minimizing derivative prices, hedging strategies and the corresponding residual risks. The price of defaultable bonds are obtained as solutions to a system of PDEs with weak coupling subject to appropriate terminal and boundary conditions. We solve the system of PDEs numerically and carry out a numerical investigation for the defaultable bond prices. We compare their credit spreads with some of the existing models. We observe higher spreads in the Markov modulated market. We show how business cycles can be easily incorporated in the proposed framework. We demonstrate the impact on spreads of the inclusion of rare states that attempt to capture a tight liquidity situation. These states are characterized by low risk-free interest rate, high payout rate and high volatility.