Relative Effectiveness of Different Subsidy Schemes if Market Exit Decision Is Endogenized

The aim of the paper is to compare the effectiveness of two subsidy schemes (i.e., per-unit and lump-sum subsidies) in the framework where the market exit decisions are endogenous. The question of interest is analyzed in a two-stage market exit model, where firms are symmetric in terms of their costs of production and where the firms compete in quantities at the product market competition stage. It is demonstrated that both types of subsidies are effective in mitigating the consequences of a negative demand shock. Namely, both types of subsidies result in a higher industry output and a higher number of active firms (compared to the scenario without subsidies). In the framework under consideration it turns out that per-unit subsidy is less expensive for the regulator than the lump-sum subsidy, if under both subsidy schemes the industry output is the same. However, identical outputs under two scenarios are associated with a higher number of active firms under lump-sum subsidies than under per-unit subsidies. Moreover, the result that per-unit subsidies are more cost- effective for the regulator than lump-sum subsidies may be driven by the assumption of the cost symmetries of the firms. A further analysis of a relative effectiveness of the subsidy schemes is needed for the scenarios, where firms are characterized by cost asymmetries.