Risk Shifting, Technology Policy and Sales Contingent Claims: When is Launch Aid to the Aerospace Industry a Subsidy?∗

This paper studies the criteria with which the presence or absence of ‘subsidy’ in sales contingent Launch Aid R&D support may be determined when payoff-relevant market incompleteness limits the precision of market-based pricing to non-trivial intervals. Existing criteria correctly account for the opportunity cost of capital when markets are complete and frictionless, but fail when the interval between bid and ask prices may not be finessed away. An economic definition of subsidy must necessarily capture opportunity cost, and we develop a definition that fully incorporates government’s opportunity cost in both complete and incomplete market settings.