Thursday, January 24, 2013

Defence FDI or Imports?

    For 60 years we have been striving to become self sufficient in Defense production with minor success.  Unlike in consumer products where "self sufficiency" is an illusion if not a delusion, "self sufficiency" has real substance in the case of defense production.  One of our cherished and oft proclaimed foreign policy goals is, "strategic autonomy in decision making".  The more we are dependent on imported equipment and ammunition the less strategic autonomy we have in general and particularly in a hot war.

   Given the nature and structure of our economy the simplest and most effective way to achieve self sufficiency in defense is to allow our private sector to produce and sell any and every defense item and to allow up to 100% Foreign direct investment (FDI).  But won't that make us 100% dependent on foreigners?  Well ask yourself the following question. Do you prefer the current situation in which many systems, sub-systems and parts are imported 100% or a new system that is produced in India with 100% FDI.  In the case of import of defense equipment we are completely dependent on others at a time of potential or actual conflict to replace any losses.  In FDI case we have the option to a much greater extent to ramp up production.  Further the transfer of technology is much deeper and more meaningful with FDI as there will be numerous Indians working at different levels of the company who will get hands on experience of the technology, production techniques, sources of supply of components etc.. Over time the technology defuses from the company to other domesic company through mobility of employees and access to better components and parts that the FDI company uses.  This means a deeper and more thorough transfer of technology than any purchase of blueprints can accomplish, particularly if the technology is highly sophisticated.  The technology of defense systems is highly interconnected web of technologies, sub-systems and components that is completely missed by an importer even a sophisticated one such as the defence department.

   To get the maximum benifits from a new policy of up to 100% FDI, I would reccomend the following structure of FDI to be implemented by an FIPB type Defense technology board:

(a) Up to 100% FDI in 1st generation high tech defense technologies (such as those being currently incorporated in the US on its ‘under-development’ defense aircraft & space craft, warships, armored fighting vehicles, missiles and smart bombs).
(b) Up to 74% FDI 2nd generation defense technologies (such as those already incorporated in the advanced Western countries’ frontline, ‘in-service’ fighters, bombers, warships, tanks, arms and ammunition).
(c) Up to 51% FDI in 3rd generation and dual use technologies for (defense) items requiring an industrial license for production by the private sector. This allows the Indian company to be a subsidiary of the home country company and will facilitate transfer of technology that the home country doesn’t allow to be sold to other countries’ companies.

(d) Up to 49% FDI on automatic route.  As Government is the sole buyer of defense equipment and also controls exports of defense equipment, most of these are likely to be in the form of JVs with an Indian private or public sector partner having 51% equity.
     The board would determine the sophistication of the technology and specify the level of FDI accordingly.  Both the domestic private sector and the domestic public sector would be open to participate in joint ventures, depending primarily on the preference of the FDI partner supplying the sophisticated technology.

     One would expect rational FDI investors to prefer private Indian companies for investment in parts components and smaller sub-systems but to hedge their bets vis-a-vis complete system and large sub-system by involving the public sector, as this is more likely to bring in demand from the government.  Public sector units would still be free to produce any item themselves if the can develop or acquire the technology.  The defense technology board can always take suitable account of this when actual cases start coming before it

    The time for introduction of such a policy is particularly apt., given that the USA is now willing to supply the most sophisticated technologies to India, and US companies would be eager to exploit this opportunity given the poor state of Developed country finances and demand for defense products.  The companies form other countries are in a similar position and would be equally eager to compete with the US in participating in this long term opportunity. 

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