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  3. a) suppose that nominal price level p evolves rand

a) Suppose that nominal price level P evolves randomly according to the stochastic process P...

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Finance

a) Suppose that nominal price level P evolves randomly according to the stochastic process P = Pdt + Pdz, where is the constant expected inflation, and is the constant volatility. The real value of a bond is characterized by = ^rt/, where r is the constant nominal interest rate.

Obtain the stochastic process followed by the real value of the bond b (Hint: apply Itos lemma.)

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