Politics & Society

Economics 101: What Are Subsidies? Learn 5 Common Types of Government Subsidies and How They Are Distributed

Written by MasterClass

Aug 13, 2019 • 4 min read

Subsidies are one of the many ways in which governments help stimulate or supplement economic activity. Understanding how subsidies work is crucial for anyone attempting to break into business in any sector, and at any level.

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What Is a Government Subsidy?

Government subsidies are financial grants extended by the government to private institutions or other public entities, in order to stimulate economic activity or promote activities that are in the public good. Subsidies encourage private companies to undertake economic activities and business ventures that the government sees as in the public’s best interest.

Government spending on subsidies affects every sector of the global economy. Subsidies are provided by both federal or national governments and local governments. The United States is technically a free market, but direct subsidies provided by the U.S. government influence market prices and economic growth greatly.

5 Common Types of Government Subsidies

Subsidies take many different forms but can be divided into five broad categories.

  1. Export subsidies. An export subsidy is when the government provides financial support to companies for the purpose of exporting goods to sell internationally. An export subsidy is implemented once the good is exported. The exporter will report the volume of exports to the government, who will, in turn, compensate them. Export subsidies can be used to boost the trade surplus or decrease a trade deficit for the country undertaking the subsidy. The World Trade Organization (WTO) currently does not allow most export subsidies but does allow some subsidy programs run by the United States federal government to help American farmers compete with foreign exporters.
  2. Agriculture subsidies. Federal governments, including the U.S., subsidize their agricultural industries, often to protect domestic food prices. For example, the U.S. federal government used a price support program in which it paid farmers to keep production down in order to make sure that supply kept pace with demand, helping to stabilize food prices and ensure food production wasn’t wasted.
  3. Oil subsidies. Oil subsidies are designed to bring down the price of oil for consumers. Oil subsidies have historically accounted for a large percentage of the U.S. annual federal budget since World War I, though President Barack Obama reduced oil subsidies during his time in office.
  4. Housing subsidies. Housing subsidies help give citizens the opportunity to own homes by providing interest rate subsidies and down payment assistance. The most common interest rate subsidy that homeowners utilize is the mortgage interest deduction, which is a reduction in taxes calculated annually on federal income returns. The government also provides financial assistance in the form of matching funds for low-income families who are saving up for a down-payment.
  5. Healthcare subsidies. One of the largest portions of the U.S. federal budget, nearly 26% in 2017, is allocated toward providing direct healthcare subsidies to Americans via programs like Medicare, Medicaid, and CHIP. Other forms of government healthcare subsidies include funding medical research and paying for prescription drug development and trials.

How Do Governments Distribute Subsidies?

Governments have many different methods of issuing subsidies. Depending on the targeted sector and the type of recipient, the subsidy will come in one of the following forms:

  • Cash subsidies. Cash subsidies simply entail the government giving a sum of cash directly to a business or organization. One example of a common cash subsidy in the U.S. can be found in the renewable energy industry—cash subsidies are given to private businesses in the renewable energy sector to stimulate the growth of that industry.
  • Tax concessions. Tax concessions occur when the government lessens the tax burden on a company or industry. Often this takes the form of tax credits or incentives when certain obligations are met. Tax concessions are a very common form of subsidy that large corporations, small businesses, and individuals alike take advantage of every year.
  • Assumptions of risk. This type of subsidy generally takes the form of government loans to businesses with extremely favorable terms for the recipient. The government will lend out money to companies in industries it wishes to subsidize with interest rates that are sometimes lower than the government’s cost of borrowing.
  • Government purchase policies. Government purchase policies entail the government purchasing products directly from producers. In the U.S., a large portion of government purchases is involved in agriculture subsidies. Historically, the U.S. government has made it a priority to purchase large amounts of crops from farmers in order to incentivize production and keep a reserve on hand in case of natural disaster or drought.
  • Stock purchases. Occasionally, government subsidies will take the form of stock purchases in order to keep a company’s stock price above a certain level. This sort of subsidy can sometimes be undertaken during an economic emergency in order to keep massive corporations afloat.

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