FDI cap in defence should be raised, but with safeguards
Voices Thursday, June 05, 2014 - 05:30
By Nitin Gokhale In recent times, no draft cabinet note would have evoked as much interest as a DIPP (Dept. of Industrial Policy and Promotion) proposal to raise the cap on Foreign Direct Investment in the defence sector from the current 26 per cent to 100 per cent. Within days after the BJP-led National Democratic Alliance (NDA) government under Prime Minister Narendra Modi took office in Delhi, it started taking a re-look at some of the bottlenecks in reviving economic growth and restoring investor confidence. One 'low-hanging' fruit, ready to be plucked, it seems, is to allow non-Indian companies to invest in defence production. One of the earliest indications that the new government is likely to revisit the 26 per cent FDI cap in defence sector came from Arun Jaitley, currently both finance and defence minister. In a brief interaction with the media as he was taking charge as defence minister Jaitley reminded everyone that it was the previous NDA government that had partially opened the sector. Indeed in May 2001, the defence industry was thrown open to the private sector. The Government permitted 100 per cent equity with a maximum of 26 per cent FDI component, both subject to industrial licensing then. The policy however failed to attract any substantial investment. Less than Rs 1 crore in fact came in the form of FDI in defence between 2001 and 2010. The reasons were obvious: Apart from the FDI cap, the guidelines also stipulate a three year lock-in period for all defence equity inflows; no purchase guarantee from the Ministry of Defence (MoD); detailed particulars of the management to be furnished to the government; and strict adherence to export norms as applicable to the government-owned enterprises. Major defence companies across the world have stayed away from India because they feel the current policy is dissuasive rather than encouraging; the 26 per cent cap does not offer any meaningful return even in medium term. So, for 14 years, 10 of them under UPA I and II, FDI in defence beyond 26 per cent remained a no no. It did not help that for eight years between 2006 and 2014, India had a timid and status quoist defence minister in AK Antony who, egged on by largely non-performing DPSUs (Defence Public Sector Undertakings) and unions in OFBs (Ordnance Factory Boards), resolutely opposed even his own colleagues in the cabinet on the issue of raising the cap on FDI in defence. In 2010, the Commerce Ministry circulated a note recommending the raising of FDI cap to 74 per cent to encourage Ã¢â‚¬Ëœestablished players in the defence industry to set up manufacturing facilities and integration of systems in IndiaÃ¢â‚¬â„¢. The Ministry of Defence (MoD) under Antony shot it down. Three years later, in May 2013, modifying his earlier proposal, Commerce Minister Anand Sharma suggested that the upper cap be raised to 49 per cent as a first step. Antony and his babus would have none of it. As a sop--an empty gesture really-- the MoD however suggested that higher FDI may be considered for modern and state-of-the-art technology by the Cabinet Committee on Security on a case to case basis, knowing fully well that no big defence company in the world was willing to invest in India giving the restrictive regime. One argument put forward by opponents (and those includes some security and intelligence agencies under the Ministry of Home Affairs too) of raising FDI in defence stems from a mistaken premise that higher investment would impinge upon national security and overwhelm the nascent indigenous industry. The fears are at best exaggerated. The bogey of national security being compromised is over hyped since a foreign company operating its manufacturing facility within the country, under Indian laws, cannot act outside the Indian system. In fact, any facility operating in India is easier to monitor and control, if the need arises. On the other hand, complete dependence on imported weapons and platforms (India currently imports nearly 80 per cent of its arms and ammunition), is an invitation to disaster in the event of a war as witnessed briefly during the 1999 Kargil conflict when India had to depend on importing ammunition. So should FDI cap in defence be raised? The unequivocal answer is yes. But with an accompanying set of safeguards. For instance, an inter-agency oversight mechanism should be entrusted to clear each proposal that involves FDI beyond 49 per cent. India can incorporate necessary security clauses in the initial licensing. Security fears apart, simple economic logic suggests India must go in for 'calibrated' 100 per cent FDI in the defence sector. As far back as in 2005, a report by the Vijay Kelkar Committee entitled 'Towards Strengthening Self Reliance in Defence Preparedness' suggested a set of reforms for enhancing IndiaÃ¢â‚¬â„¢s defence production. The Committee had identified three major economic benefits - higher manufacturing output, additional generation of employment and savings through relatively reduced procurement cost of indigenised products Ã¢â‚¬â€œ that would accrue to the wider economy. The details of the economic benefits as identified by the Kelkar Committee were: Higher defence production will accelerate the overall growth of the manufacturing sector by 8-14 per cent Increase of employment by 120,000-200,000. Savings of 30-50 per cent as result of import substitution and cheaper cost on account of spares and maintenance. In absolute terms, this translates into savings of more than Rs. 4,000 crore a year.Â Larger fund inflow coupled with state-of-the art technology import facilitated by India-based foreign manufacturers is perhaps the way forward for India's quest towards self-reliance in defence production. The time to take that critical decision is now. Nitin Gokhale is an author, teacher, journalist, student of conflicts and wars; currently Security and Strategic Affairs Editor with NDTV. The opinions expressed in this articles are the personal opinions of the author. The News Minute is not responsible for the accuracy, completeness, suitability or validity of any information in this article. The information, facts or opinions appearing in this article do not reflect the views of The News Minute and The News Minute does not assume any liability on the same.