Self-reliance In Defence - Many Mountains To Climb

Unveiled amidst much fanfare, the Defence Acquisition Procedure (DAP) 2020 seeks to streamline the procurement of defence equipment and cut delays in the approval of acquisition processes. Its biggest thrust is on the principles of ‘Aatmanirbhar Bharat’ (self-reliance) and ‘Make in India’. Through the DAP, the government hopes to empower domestic defence industries and incentivise indigenous manufacturing.

BEING PRAGMATIC 

Among other things, the DAP has exclusively reserved categories of arms for Indian vendors. It contains a stipulation that products which are indigenously designed, developed and manufactured in India, should contain at least 50 per cent of indigenous parts. In other words, the monetary value of goods and services of Indian origin, which go into the manufacturing of the final defence equipment, should amount to at least 50 per cent of the total contract value. This is 10 per cent higher than what was stipulated in an earlier policy. 

The indigenous content requirement has also been increased to 60 per cent (from 40 per cent) for defence products that have not been designed or developed in India but have nevertheless been acquired from Indian vendors. 

While it is desirable to progressively raise the indigenous content of defence equipment, this needs to be pragmatically weighed against the variables of quality, time, and cost. Since India lacks core capabilities and production expertise on various fronts, many of the inputs would have to be developed for the first time. If history is any indication, such processes can be riddled with quality issues, cost escalations, and delayed implementation. The development of indigenous systems such as the ‘Arjun Tank’ or the ‘HAL Tejas aircraft’ are notable examples. Another case in point is the 5.45 x 45 mm rifle, which had been developed as part of the Indian Small Arms Systems (INSAS) in the 1990s.

Bearing this in mind, it is important to ensure that Indian vendors can realistically pursue high levels of indigenous content, without compromising on quality and a reasonable degree of cost-efficiency. This entails hard choices on the core capabilities that need to be prioritised for indigenisation, as opposed to a ubiquitous elevation of indigenous content for all products.

WHERE'S THE FDI BAIT?

Even while emphasising self-reliance, India’s defence sector continues to be import-dependent on a whole range of sophisticated weaponry. Acknowledging this, the DAP has introduced a new provision for acquiring weapons and systems from foreign vendors, known as ‘Buy (Global-Manufacture in India)’. Under this category, only a minimum quantity of defence equipment can be bought from abroad, with the rest being manufactured in India. Foreign vendors are required to gradually move into domestic manufacturing through subsidiaries, joint ventures, or production agencies in India. 

The government is optimistic that this provision, along with an earlier policy that relaxed FDI limits (from 49 per cent to 74 per cent) in the defence sector, will encourage foreign original equipment manufacturers (OEMs) to set up production in India. However, it is important to temper these expectations.

It must be remembered that the increase in the FDI cap comes with a rider, whereby all investments in the defence sector are subject to pre-approval scrutiny as well as a post-approval review on the grounds of ‘national security’. Since this term has a broad connotation, it impacts different ministries and departments in the government, ranging from defence to home. This, in turn, could result in unnecessary red tape, hardly the best bait for foreign investors. 

Furthermore, the DAP has retained an earlier provision which restricts FDI in strategic partnerships to 49 per cent. Strategic partnerships denote a mechanism whereby Indian private sector companies are permitted to partner with foreign OEMs in manufacturing fighter aircraft, helicopters, submarines, and armoured vehicles. Due to FDI limits, overseas vendors are confined to small manufacturing projects in these areas. The jury is out on whether this will be a good enough incentive to persuade foreign manufacturers to invest in India.

Finally, the DAP has come at a time of fiscal stress for the Ministry of Defence (MoD), aggravated by the COVID-19 pandemic and a stand-off with China. There are concerns that fiscal conservatism might disrupt and delay acquisition procedures. In this context, it becomes more difficult to convince investors that the MoD will have the wherewithal to purchase their products if they relocate to India.

OFF WITH OFFSETS

Offset guidelines have been revised in the new DAP. Earlier, these guidelines had required foreign vendors to invest a part of the contract value in India, if government entities outrightly purchased equipment from them. It was believed that this could substantially develop domestic capabilities, transfer technology and generate employment. In 2016, the offset value was fixed at 30 per cent for defence deals above Rs. 2,000 crore.

In the current DAP, however, the scope of this offset has been considerably reduced. From now on, there is to be no offset requirement in Inter-Governmental Agreements (IGAs), Government-to-Government (G2G) contracts, and single-vendor transactions. The offset clause will, however, continue to apply to international deals that are competitive and have multiple vendors vying for them. 

The removal of offsets in the former category has come in the wake of a report by the Comptroller and Auditor General (CAG) of India, which pointed out that many of the offset obligations in existing defence contracts were never discharged. The CAG cited the example of the Rs. 60,000-crore Rafale deal, in which the French aircraft manufacturer Dassault Aviation and missile maker MBDA, failed to transfer technology to India’s Defence Research and Development Organisation (DRDO), as had been previously agreed. In a similar vein, criticisms can be voiced in relation to other acquisitions such as the EO/IR recce system for Jaguar aircraft, or the upgraded Mirage 2000 fighter jets.

Experts also argue that offset clauses have prompted defence vendors to ‘load’ extra costs onto the final contract value, in order to recover the administrative expenses inherent in discharging offset obligations. It is believed that the elimination of offsets will now reduce the purchase cost of defence contracts by 8 to 10 per cent. However, a majority of India’s defence imports are fighter jets, helicopters and heavy artillery. These are mostly acquired through G2G mechanisms (like America’s Foreign Military Sales) or IGAs. A removal of offset requirements, therefore, can impede the transfer of technology in these areas and undermine India’s bid to develop indigenous capabilities.

Finally, even though offsets have been retained for competitive bidding, foreign vendors can easily bypass these requirements by lobbying their governments to formulate G2G schemes. If that happens, the entire objective of enhancing India’s indigenous competence would stand defeated.