India needs to spend more on R&D to fast track Privitization in Defence Manufacturing

In an uncertain global security environment, facing prolonged aggressive threats from two neighbors simultaneously, India is taking bold initiatives to protect its defence supply by indigenously designing, developing, and manufacturing weapon systems and military wares domestically.

Recently, Indian Chief of Army Staff General M M Naravane said that a fast-modernising army needs localised solutions and military wares to win wars. “Developing indigenous and local capabilities to confront emerging security challenges and reduce our dependence on borrowed technologies is, therefore, an imperative need,” General Naravane said at an Army-FICCI webinar.

India’s defence budget for the current fiscal was Rs 4.78 lakh crore ($63 billion), which is 2.15 per cent of its GDP. In terms of total government expenditure, it comes around 25 per cent. The capital budget (the money spent for military systems and weapons) stands at 25 per cent of the total defence budget. To meet its defence requirements India imports heavily. India is the second-largest importer of defence systems and military wares.  It is estimated that only 45-50 per cent of Indian requirements are met domestically. Rest is imported.

After liberalization in 1991, the Defence sector was almost untouched and totally controlled by the government. Baby steps were taken early this century to increase private participation in defence production. After 2017, the government came out with some bold initiatives to encourage private sector participation in domestic manufacturing.
India’s defence manufacturing sector recorded an increased production of $10.9 billion in 2019-20 with over 90 per cent contribution from the government-owned companies. 

The defence production infrastructure consists of DRDO and 50 labs, four defence shipyards, five defence PSUs and 41 ordnance factories. This large system almost monopolises the local defence manufacturing infrastructure.

Such a large manufacturing system is providing only 45- 50 per cent of defence supply. In short, 50 per cent of our requirement is met by import or our future wars are based on foreign defence systems and military wares. Put in plainly, in a war situation, if the foreign supplier is denied or delayed the supply, you are dead. 

Now the defence industry has been opened up to the Indian private sector and 4 per cent up to 7 per cent foreign direct investment is allowed through automatic route. Investment though is lagging in the sector. It is not that the government is not taking steps to attract investment. Even though there is an attractive defence market, India is not attracting investment.

To boost defence manufacturing capacity and reduce imports, the government had announced years ago two defence industrial corridors – one in Uttar Pradesh and the second one in Tamil Nadu. Both these projects are expected to attract an initial investment of Rs 3,458.38 crore. It is expected that this will provide a thriving defence manufacturing ecosystem. 

Further, it will promote the private sector in domestic manufacturing, including MSME and start-ups. Both clusters will provide avenues for plenty of MSMEs and small manufacturing units in and around it and generate immense job opportunities.

The dedicated corridors, the government expects, will improve the research and development environment and generate better technologies. It will also provide armaments, components of aerospace industries and missile systems. 

Unfortunately, after three years of the announcement to create world-class defence hubs, it just reached a stage of identifying the land required for the projects. On the positive side, an investment of Rs 3,700 crore for the UP corridor and Rs 3,180 crore investment of Tamil Nadu Corridor were committed.

In another move, the government has come out with a negative import list to systemically enhance the local production. In August 2020, the government announced an import embargo on 101 defence items over a period of five years. Import of these items will be completely prohibited after five years. Again, an additional 108 items were added to this list in May 2021 with a five-year time frame. The success of this move is based on how effectively India domestically enhance and develop technology and create a healthy defence manufacturing ecosystem with private participation.

India’s new Defence Production Policy – 2020 is aiming at a planned reduction of dependence on imports of military hardware and systems. Incorporating Narendra Modi government’s pet initiative ‘Make in India’ programme through domestic design and development, it aims to achieve an industry turnover of Rs 1.75 lakh crore ($25 billion), including export of Rs 35,000 crore ($5 billion) in aerospace and defence goods and services by 2025. It seems it is a tough target to achieve in the next four fours.

India’s attempts to attract foreign direct investment (FDI) is a failed episode, at least for now. The government has increased FDI in the defence sector from 26 to 49 per cent and again to 74 per cent through automatic routes. The response was very poor.

The investment in this route was dismissive $0.01 million in 2018, $2.18 million in 2019 and $10.15 million in 2020-21. India is an attractive defence market for foreign players. Then why did it fail to attract investments? Blame it on our defence procurement procedure. 

The procedure insists that a domestic company-owned and controlled by Indians with a minimum of 51 per cent equity ownership can only participate in a defence acquisition programme. No foreign company will put their money in such places. The argument for this is ‘security concerns.’ However, it is not helping us. 
Recently, the government decided to corporatize some fully owned production units under the ministry of defence. To improve functional autonomy and overall efficiency of seven Ordnance Factory Boards (OFB) converted into 100 per cent government-owned corporate entities. 

It is expected that 41 factories under the Board will bring accountability and innovation for the localization programme. Immediately after the conversion, the government has placed a massive order worth Rs 65.000 crore to the newly carved companies. This, according to experts, will to some extent help the localisation process. 
As per defence ministry data, India exported military hardware and systems worth Rs 38,500 in the last seven years. Exports clocked to Rs 9,115 crore in 2019-20 and Rs. 8,435 crore in 2020-21. 

Of this, almost 90 per cent is coming from the 10-year old private sector and it shows the private sector potential.  Anyhow this is a small change in the $447-billion strong global defence market. 

The defence ministry estimates a potential contract worth Rs 4 lakh crore ($57.2 billion) for the domestic industry in the next 5-7 years and set a target of 70 per cent self-reliance on weaponry by 2027. Again, a difficult task.

India’s security threats are not going away easily in the near future. On one side is Pakistan, a country that built up its statecraft on enmity on India, on the other side it is expansionist China, which considers India a hurdle for its global ambition and does not want India to grow. Both these countries formed an evil axis against India and put impediments in our progress. India has to live in the present and pertinent security threat. That is why India has to be alert and be fully prepared to face the harsh reality.
As a fast-growing economy, India has to maintain its growth momentum, territorial Integrity and geopolitical interest to maintain progress. India has to maintain an agile defence force with a secured defence supply and it will lead to larger defence spending in coming years.

In the future, technology is the key factor to decide the winner of a war. Technology comes from a strong R&D base. India spends less than one per cent (precisely 0.65 per cent or $58.69 billion) of its GDP per year for R&D whereas tiny Israel spends 4.9 per cent.

No wonder Israel exported $ 8.3 billion defence hardware in 2020 and India is a leading importer from that tiny nation. The US stands on the top of the list with an R&D spending of a whopping $ 612 billion (3.1 per cent of GDP). China is catching up with $514 billion (3.2 per cent of GDP). And in Global Innovation Index, India’s rank is 46th in 2021. A long way to reach the best among 10 innovators. 

It is obvious that technology won’t come cheaper. For India, with low spending on R&D, it is difficult to develop cutting edge technologies. No one will sell you the latest technology. 
Our advantage is we are the second-largest buyer of defence systems and products. The option left for us is to go for joint production with big players and gradually increase the research spending and catch up with biggies.

Simultaneously, the government must take bold steps to deepen the domestic defence manufacturing ecosystem with the active participation of the Indian private sector.