Domestic subsidies

What is a domestic subsidy?

• A domestic subsidy is any form of government financial help to domestic businesses
• The subsidy helps firms to lower their costs and thus become more competitive in home and overseas markets

Impact of domestic subsidies

Domestic producers

• Domestic producers gain from the subsidy – they get the world price + a subsidy
• Higher revenues will lift profits and might therefore lead to a higher share price. Increased output creates the possibility of economies of scale
• Evaluation: Risk of a dependency culture emerging – i.e. businesses relying on the subsidies rather than taking their own steps to become more competitive by increasing productivity, eliminating inefficiency and accelerating the pace of process/product innovation

Consumers

• Assuming that the subsidy is not large enough to change the world price, not direct effect on the prices that consumers pay for their products
• They may face higher taxes if expensive subsidies take up a high percentage of government spending

Government

• Subsidy can be an effective non-tariff barrier to reduce the volume of imports by encouraging domestic production
• Unlike a tariff, a subsidy does not generate tax revenues directly.
• Increased spending on subsidies may cause a growing budget deficit