Defence Budget 2018: The Proof of the Pudding Is in the Eating

While the Budget comes with news of a new production policy, it will be up to the defence establishment and industry to bring things to fruition, something which they have struggled with so far.

An Indian Army soldier marches next to a tableau during the Republic Day parade in New Delhi, India. Credit: Reuters/Adnan Abidi

An Indian Army soldier marches next to a tableau during the Republic Day parade in New Delhi, India. Credit: Reuters/Adnan Abidi

In an unexpected first, the finance minister’s Budget speech on Thursday highlighted the central government’s focus on “modernizing and enhancing the operational capability”of our armed forces since 2014. The defence budget allocation stands at Rs 4,04,277 crore (including defence pensions) or at Rs 2,94,427 crore (excluding defence pensions). The overall allocation saw an increase of approximately 8.5% (including defence pensions) and approximately 6% (excluding defence pensions) this year over the revised estimates of 2017-18.

Of the 8.5% increase in the defence budget allocation, 2.5% is entirely on account of the increase in defence pensions. Capital outlay has risen by 8.6% while revenue has risen by 5%. One will, however, have to wait and see if the entire capital outlay will be consumed or if underutilisation will remain the norm. The government has maintained the balancing act between revenue and capital expenditure. Defence pensions continue to drain budget allocations at an increase of 14.6% over last year.

The revised estimates of 2017-18 are Rs 2,77,856 crore, which is 1.82% of GDP. Not surprisingly, the budget estimates for 2018-19 while Rs 2,94,427 crore is also 1.82% of GDP. If we consider the overall allocations including pensions, then the defence budget allocation for 2018-19 is 2.5% of GDP. This is a fulfilment of the constant calls for increasing budget allocation for defence to at least 2.5% of GDP, if not 3% of GDP.

Underutilisation of funds has remained a pain point for the armed forces and Ministry of Defence (MoD). In fact, some have even said during the run-up to this Budget that it is not more money but better spending that will help the defence establishment of India. Better decision-making is the surest way forward to ensure efficient utilisation of Budget allocations. This can only be achieved through introspection by all stakeholders in the decision-making process. The Ministry of Finance (MoF) has delivered what it could through this Budget. The ball is now in the MoD and armed forces’ court.

However, the most significant announcement for defence is the “industry friendly Defence Production Policy 2018”.

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In light of the recently-tabled standing committee reports that have pulled up the government for inefficient defence acquisitions, it is heartening to see that the government is turning its focus on indigenous defence production. A recent news report indicated that the MoD is planning to stop its investments into defence public sector undertakings and the Ordnance Factories. If this is indeed true, it is a welcome move because this would force these behemoths to become more competitive. This would also mean that it is the right time for the private sector to step in. In fact, this announcement hints at the fact that the government has its finger on the pulse of what the domestic defence industrial base requires. The rise in capital expenditure is in line with the proposed policy.

When it comes to monitoring progress on defence acquisitions, it has been common practice to use a few projects and deals as examples, instead of getting to the root of the problem. We have known, for the better part of the last decade now, the equipment shortages that plague our armed forces – whether it is the shortfall of squadrons, submarines, assault rifles and even bullet proof jackets. In the case of some or all of these acquisitions, progress has either been sluggish or, in some instances, deals have fallen through. This is due to various factors which include delays in decisions, contract negotiations and lack of industry participation. Deals often languish on account of confusion over applicability of policies, nit-picking over prices, SQRs and the public sector’s aversion to partnering with the private sector. These are all problems that are institutional.

The proposed new DPP can address some of these problems and weed out the flaws from DPP 2016. The new policy is an opportunity to set right our production policy. Despite liberalisation of FDI norms and the implementation of significant reforms such as the Strategic Partnership Policy, defence production has not seen any change worth mentioning.

Nirmala Sitharaman returns a microphone after speaking with media at the 3rd Intersessional Regional Comprehensive Economic Partnership (RCEP) Ministerial Meeting in Hanoi, Vietnam May 22, 2017. Credit: Reuters

Defence minister Nirmala Sitharaman. Credit: Reuters

DPP 2016, though a vast improvement on the older version, has still not managed to create the necessary impetus in defence production. An MoD press release dated January 17, 2018 stated that a simplified ‘Make II’ procedure had been cleared by the Defence Acquisition Council (DAC) on January 16, 2018. This would not only “enable greater participation of industry in acquisition of defence equipment” but also “greatly help import substitution and promote innovative solutions”. The new policy will be able to consolidate the erstwhile Buy, Make and simplified Make II categories. Chapter VII on Strategic Partnership (SP) (a part of DPP 2016), approved only in May 2017, was lacking on one very important count. The chapter made no mention of the establishment of an independent regulator for the implementation of the SP, which was one of the more important recommendations of the V.K. Aatre task force. An independent regulator, not only for SP but for all defence acquisitions, will help make the process a seamless one.

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The new policy must focus more on MSMEs. They will be the backbone of defence production. However for this to happen, indeed even for better private sector participation in defence, the new policy must do two things. First, liberalisation of the current defence industrial license procedure. Second, a new export policy for defence. In fact, a more lenient export policy for defence manufacturers will automatically ensure better private sector participation. Exports will allow for diversification of markets for manufacturers to sell in. Under the current regime of monopsony, private sector players, especially MSMEs, cannot and will not manufacture unless they have guarantees of purchase from the government. A sharper focus on MSMEs and facilitation for market access and exports of defence products can make the new DPP 2018 a truly robust policy.

By balancing revenue and capital expenditure, bringing total defence budget allocation up to 2.5% of GDP and making an important policy announcement regarding defence production, the government has made good on both implicit and explicit expectations of the domestic defence industry. It is now up to the defence establishment and industry to work together to bring budget allocations and policy implementation to fruition.

Nirupama Soundararajan is senior fellow, Pahle India Foundation and Dnyanada Palkar is senior research associate, Pahle India Foundation