Abstract
Municipal bonds are issued by state and local governments in many nations. In the United States the interest on these bonds is usually exempt from federal income tax, which provides an incentive for taxable investors to hold municipal bonds even if their before-tax yield falls below that of other taxable bonds. This article describes the various types of municipal bonds, the yield spread between taxable bonds and municipal bonds, and the factors that determine the efficiency of the federal income tax exemption as a means of subsidizing capital outlays by state and local governments.
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