PT  - JOURNAL ARTICLE
AU  - Sheen Liu
AU  - Junbo Wang
AU  - Chunchi Wu
TI  - Effects of Credit Quality on Tax-Exempt and Taxable Yields
AID  - 10.3905/jfi.2003.319355
DP  - 2003 Sep 30
TA  - The Journal of Fixed Income
PG  - 80--99
VI  - 13
IP  - 2
4099  - https://pm-research.com/content/13/2/80.short
4100  - https://pm-research.com/content/13/2/80.full
AB  - An examination of the effects of credit quality on the relative yields of Treasuries and municipals reveals that the municipal term structure model with no default risk underestimates equilibrium marginal income tax rates and yields of municipals relative to yields of Treasuries. The downward bias is more severe for long-maturity and low-rated bonds. Incorporating default risk into the municipal term structure model helps explain a considerable portion of the relative yields of tax-exempt and taxable bonds, and generates much more accurate estimates of implicit marginal income tax rates. After controlling for the effect of default, the estimated implicit tax rates for long and short bonds become quite comparable and consistent with the tax regime.