- The purpose of a subsidy is to reduce the cost in order to provide a higher level of production or consumption than would exist if it was left to the free market
- Such payments are particularly relevant in the case of merit goods and where products generate positive externalities
- In all such cases, if left to the free market, there would be under-production and under-consumption.
- Allocating subsidies can be controversial.
- An important thing to consider when deciding to allocate a subsidy is whether there is an external benefit