Income Inequality and the Municipal Bond Market

Increasing income inequality in recent decades raises concern about how it impacts our social and economic development. We study how income inequality affects the municipal bond market in the United States. While greater inequality may increase productivity and demand for tax-exempt bonds, there is also evidence to suggest that it negatively impacts a region’s economy by lowering overall consumption, growth, and social cohesion. Our results indicate that the bond yields of U.S. counties and states with high income inequality exhibit significantly higher bond yields. A one-standard-deviation increase in income inequality increases bond yields by 2.36 basis points for county-level bonds and 4.58 basis points for state-level bonds. This negative effect of inequality on bond borrowing costs is more pronounced in counties which rely more on high income households for tax revenue. We also find that the bonds issued by counties with high income inequality are more likely to have insurance.