A lot of free apps are created by someone who is fully employed and has come up with an idea for an application that they produce in their spare time. That person doesn't "need" the money to survive.
A lot of times finding the mechanisms to market, sell and collect payment are just not worth the effort and sometimes individuals just enjoy offering something they thought as useful to the general public.
If you are competing with a free application then the best strategy is to make a better product. I've often purchased an application over using a free version just because it offered more features or was better implemented in some way.