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Defence Sector Reforms: A Long Haul

Mr Amit Cowshish is a former Financial Advisor (Acquisition), Ministry of Defence and former Distinguished Fellow, Manohar Parrikar Institute for Defence Studies and Analyses, New Delhi. Click here for Detailed Profile
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  • May 20, 2020

    There were two main takeaways from the policy reforms in the defence sector announced by the finance minister on May 16, 2020: corporatisation of the Ordnance Factory Board (OFB) and raising of the Foreign Direct Investment (FDI) cap through the automatic route from 49 per cent to 74 per cent.1  

    These two measures have been under consideration for long. The debilitating effects of the COVID-19 pandemic have seemingly prompted the government into fast-tracking them.

    As always, the fine print of these, and other decisions announced by the minister will be crucial for their smooth and expeditious implementation; but more importantly, for them to start showing the anticipated results.

    One cannot say whether the OFB’s 41 units will be converted into one mega-corporation or reconstituted into several clusters. But what can be said with near certainty is that mere corporatisation will not be enough to achieve whatever results are expected to coemerge from this attempt.

    The decision to corporatise the OFB would require managing numerous other issues, the most pressing of them being to assuage the anxiety of its workforce, including officers.

    With the existing system of budgetary support for the OFB’s working capital, in all probability, vanishing with the planned corporatisation, the Board’s overall financial management could also pose an immediate challenge which, in turn, could become tangled in legal wrangling.

    With one or more additional corporations to manage, the Ministry of Defence (MoD) will also have to address a larger and more pressing question: how to reform the structure and functioning of the existing and new undertakings/corporations in deference to the persisting adverse criticism – often unwarranted – of their performance.

    Further, an increase in the FDI cap to 74 per cent through the automatic route meets a longstanding demand by overseas companies and investors. But how attractive or financially remunerative would it be for them to invest in India’s military-industrial complex would depend on the fine print and conditions predicated to this liberalisation.

    It is unknown at this stage whether or not companies willing to invest 74 per cent FDI would be at par with other Indian companies in which the majority stake is held by the local investors.

    While similar treatment of all companies with FDI up to 74 per cent will enable them to participate in indigenous production and procurement on an equal footing, the actual inflow of resources would depend to a substantial extent on MoD’s capacity to buy the indigenously made products. The situation is a bit worrisome on this account.

    With the three services registering a gap of more than Rs one lakh crore between their projected requirements and the MoD’s allocation, rising committed liabilities and the near certainty of no further additional funding this year, it may take time before the overall situation starts showing financial promise for foreign investors.

    Viewed with this background, the decision to provide a separate budget for domestic capital procurement is, to say the least, enigmatic. The MoD is one among several ministries asked to cap expenditure during the first quarter to 20 per cent of its annual budget for this fiscal.

    It is quite likely that with a recession predicted due to the pandemic, such restrictions may continue or even intensify over the three subsequent quarters.  If so, this would discount the possibility of a separate budget provision being made any time during the current financial year.

    A separate budget provision, as proposed by the minister – who was also the defence minister for two years till 2019 – would make sense only if it is by way of additional allocation over and above the current average level of funding for capital expenditure aimed at modernisation and acquiring new materiel.

    If it is not, segmentation of the budget outlay into a component meant exclusively for equipment procurement from domestic sources and another for procurement from foreign sources would only end up restricting the flexibility presently available to use the funds, irrespective of the supply source.

    The decision to notify – and continuously update – the list of weapons/platforms whose import would be prohibited seems equally restrictive and limiting. In keeping with the procurement policy since 2016, there is no way the MoD can import materiel that is locally available or alternately can be indigenously manufactured.

    It is unclear what additional purpose would be served by banning the import of these items. If anything, it will make it procedurally more complex to import any such item, should its induction become operationally necessary.

    Other reforms announced by the finance minister include the establishment of a Project Management Unit (PMU) to ensure timely completion of the procurement process, facilitating quicker decision-making, formulation of realistic General Staff Qualitative Requirements (GSQRs) and overhauling the Trial and Testing procedures.

    It may be recalled that the former Defence Minister Manohar Parrikar had once publicly declared that some of the military’s QRs appeared to be out of ‘Marvel comic books’, as the technologies and capabilities they specified were ‘absurd and unrealistic’.2 The April 2012 Defence Parliamentary Committee had also revealed that as many as 41 of the Indian Army’s tenders were scrapped because of the restrictive QRs.3 

    Meanwhile, allocation of Rs 400 crore to the Defence Testing Infrastructure Scheme (DTIS) has been approved by the MoD to create six to eight testing facilities for locally developed defence equipment over the next five years.4

    The Scheme envisages setting these test facilities with grants-in-aid from the MoD and corpus private industry and respective state governments. The latter would band together as Special Purpose Vehicles to build the test facilities in the two Defence Industrial Corridors in Tamil Nadu and Uttar Pradesh and, possibly, elsewhere.

    Although these new measures to fast-track the defence sector are significant, they do not add up to a comprehensive and overarching reforms package. What is also lacking is a professional bespoke organisation capable of steering India’s complex materiel procurement process and managing life cycle support and eventual upgradation.

    A committee of military and managerial experts constituted by the MoD some years ago had recommended a slew of measures to deal specifically with this aspect. It is time the committee’s recommendations are given due consideration. 

    Views expressed are of the author and do not necessarily reflect the views of the Manohar Parrikar IDSA or of the Government of India.