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Friendly Fire is an unlockable Ability available after acquiring the Skill of the same name. It negates all Damage from friendly fire the Trooper can possibly inflict. A very handy pick for Exterminate missions, essentially making all automatic weaponry, Shotguns, and explosive ordnance alike safe for work again. Additionally, the skill decreases the potential destruction caused by infiltrated Spies, particularly the efforts grunts put into taking out one.
While this skill prevents the owner from inflicting any damage to teammates, Suspicious grants the opposite effect – they can't take any damage from friendlies.
More broadly, friendly fire is a term used to refer to situations when troops under certain circumstances hit their teammates. Such situations are exclusively caused by using weapons with an Area of Effect or Spread against hostiles in close proximity to friendlies.
To avoid such situations one may consider purchasing special skills, limit the use of AOE munitions by Support Troopers if most allies resort to close combat, or increase overall productivity to prevent any hostiles from closing in. Reliance on different tactics not involving AOE is another way to go, albeit harder to achieve and successfully implement.