The effect of alternative domestic subsidy programs on efficiency and output has become an important policy issue, not least because of the World Trade Organization (WTO 1999) ne-gotiations on agriculture. This article identi-fies the impacts of infra-marginal production subsidies on the farmers' decision to exit the industry or stay in business, and perhaps even expand output beyond the quota or base upon which the subsidies are given.'Infra-marginal subsidies can be financed by consumers (eg, California milk quotas or European Union [EU] sugar quotas) or taxpayers (US dairy countercyclical payments or EU compensatory payments). 2 When production occurs at the margin where world price equals marginal costs only because of the infra-marginal subsidies, then" cross-subsidization" is implied (Tangermann). In the recent Canadian dairy and EU sugar disputes in the WTO (1999, 2004), it was argued that high prices in domestic markets are used to off-set losses in export markets by having exports sold below average total costs of production. Hence, limits in the WTO on production and export subsidies can be circumvented through infra-marginal production subsidies. Reforms since the 1980s in the United States and EU have resulted in several infra-marginal subsidy programs (eg, base acres in both the United States and EU), which are sometimes referred to as being decoupled. 3 This article first presents the economics of cross-subsidization and the effects on exit decisions. A generalized theoretical model of cross-subsidization is developed and an em-pirical example calibrating the production and cost structure of the US wheat sector is presented to show the comparative effects of loan deficiency payments (LDPs) to the taxpayer financed infra-marginal production flexibility contract (PFC) payments.