Do the Economies of Specialization Justify the Work Ethics? An Examination of Buchanan's Hypothesis [chapter]

Yew-Kwang Ng
2009 Increasing Returns and Economic Efficiency  
This paper focuses on evaluating the credit risk of corporate bond in the fixed income market of Taiwan. We apply Vasicek (1977) model into Merton's (1974) option framework and obtain a closed-form solution of the options model. The solution algorithm employs the Newton-Raphson method in combination with the inverse quadratic interpolation and bisection technique of Dekker (1967) to find out the roots and calculate the credit spread. The result shows that the average credit spread is 1.346%,
more » ... the credit spread of TSE (Taiwan Stock Exchange) listed firm is higher than that of OTC firms, while the one with bank guarantee is higher than the one without. We find negative correlation between VaR rating, TEJ (Taiwan Economic Journal) rating and credit spread, implying that the higher the market risk is, the lower the required premium is by the bondholders, and credit spread is expected to be lower. Testing the hypothesis of Duffee (1998), we find a negative correlation between the Taiwan Stock weighted index and credit spread. It implies that the term structure of interest rate is an upward type. As firm's equity value rises, the index return follows suit. While the bond default probability decreases, and the credit spread is expected to decrease. In Taiwan, more than 90% of bond trade is completed in OTC market of which, financial institution accounting for more than 60% of the trading volume is the primary dealer. In addition, levying a high bond trade tax, special offer system, and failure to perform credit rating for the underlying firm, etc. all contribute to the unsound operation of bond market in Taiwan.
doi:10.1057/9780230236813_10 fatcat:mwsr62hpcjgvhe7bhqekdx52ne