Question

How does a subsidy influence the supply of a good by a firm? Explain.

Answer 1

When the government gives a subsidy on the production of a good, marginal and average costs of production tend to fall. Accordingly, producers will supply more at the same price or supply the same quantity at the lower price. This implies a forward or rightward shift in supply curve or increase in supply as shown in Fig. $S_1$ is the initial supply curve. When the government gives a subsidy, the supply curve will shift from $S_1$ to $S_2$.