This article further expands on putting the concept of BICs introduced earlier in a wider context.It is intended to reinforce the statement of the benefits of BICs.
This article was originally designed in February 2009 to provide a method for the government to dispose of Banks illiquid assets. While the timeliness of that issue may have lapsed, the article remains methodologically important as a tool to help value any type of assets that is illiquid and for which a consensus price is difficult to guess.
This article argues that the administration would get a fairer deal in buying troubled assets by becoming a market maker on those assets bought at a most refined level of granularity using a proposed relatively straightforward market-making method. This approach further has the benefit of being minimally surgically invasive while most speedily addressing the problem.
The approach described here indeed generalizes to all situations where the value of a large block of a priori illiquid assets must be found, in a manner that can be traded as such in a mark to market perspective
This article provides a definition for the concept of Basis Instrument Contracts (BICs) and explains why such a concept is needed and useful in Finance, Economics, Mathematics and risk management in Decision sciences in general. It explains how BICs are practical and represent both a prophylactic and a therapeutic structural tool for a crisis such as the Sept 2008 financial crisis. BICs help mitigate market volatility and facilitate more robust risk management.
It is complemented by peer-reviewed Wolfram Demonstration that uses BICs in the framework of the baseball 2001 and 2009 World Series and includes illustrating free software code.
This material is intended for an educated audience with basic awareness of financial economics.
Familiarity with the concept of Arrow Debreu Security(ADS) would facilitate speedy reading. However tutorial material on ADS is provided in references and links
This knol is prompted by a recent question posed on the Institute for New Economic Thinking (INET) community website : “Will public deficit reduction encourage private sector growth, or undermine a needed stimulus to recovery & lead to Japan-style stagnation?” This lead me, in view of my work on BICs, to wonder whether the deficit is really the right metric to focus on and analyze the extent to which it could be misleading.
I argue that the government balance sheet, rather than its cash flow position -from which the deficit is computed – should really be what eyes are focused on. The focus on balance would have and should better focus minds on stimulating high returns investments for sustainable recovery and expansion, some of which I discuss.
BICs enter in the picture because using their methodological prescription would make reliable and practical the complex and almost canutian task of computing the values of the different items on the government balance sheet.
I am gratified that the debate INET moderating team has picked on some of my suggestions and highlighted them in the debate summary(http://ineteconomics.org/blog/inet-community-responds-deficit-debate) as: “As far as new, creative solutions to the debate, a few users, such as kongtcheu, have urged governments to invest in entrepreneurship and clean energy projects, suggesting that these investments will create jobs and growth in the future.”” I think I meant to say more than that.
This collection presents a series of knols written on Basis Instruments Contracts (BICs) for financial derivatives analysis and their wider scope, starting with the introduction to BICs
This article starts with pointing to a document that is the first and introductory chapter of the book BICs 4 Derivatives Volume I: Theory, published in October 2005. It makes the case for the need for BICs (Basis Instruments Contracts) as new paradigm for derivatives pricing, hedging and risk management.
It is partially continued here with a discussion which uses an accidental choice of words in recent events “Greek”, to emphasize the limitations of parametric sensitivities based derivatives risk management
On Mathematics Education and the Financial Crisis Dear Claes, I was doing a mathematical finance search on knol and came across this article. I wholeheartedly agree with your characterization of the financial market 2008 crisis and ensuing recession as having its foundation in mathematical education. First, because you are not an expert as you acknowledge, […]
The Holistic theorem is the idea that “The more people participate in a system, the more it makes sense for a central authority to mediate their relationships/communication; No matter what the cost for setting up this central authority, as the number of participants increase, this cost is dwarfed by the benefits of centralized mediation on a linear vs. quadratic basis.”
The “Holistic Theorem” compares to other statistic models of social organization such as Zipf Law.
This idea helps explain why financial institutions should welcome mandatory centralized clearing of derivatives trades and provides insights into other economic and current affairs’ issues
This article is a follow-up to the knol article “Fair Value Pricing, Government Market Making and PPIP” and uses the concept introduced in the knol article ” Introduction to Basis Instruments Contracts (BICs) for Mathematics, Finance, and Economics”.
In this article we seek to estimate the proportion of assets ultimately held by the Government in a market making model, their cost and the parameters needed to make such estimates. This help us draw more effective comparative conclusions.
An important financial insight of this analysis is that we show that market making results in earning a spread that makes market making loss unlikely.
This article has methodological emphasis.