Reforming defence procurement, mindset first
This the unedited version of my op-ed in today’s Business Standard.
Why is it that on the one hand India is the world’s biggest arms buyer, and on the other, the outgoing army chief has complained that we are short of basic war-fighting equipment like tank ammunition and field guns? Why is it that our defence procurement takes years to complete and can be halted or reversed by allegations of corruption? Is corruption so rampant within the top echelons of our armed forces that the both the army chief and defence minister could shrug off a brazen attempt to bribe the general in his office? How come the defence ministry has spurned and blacklisted vendors from countries whose geopolitical interests are aligned to ours?
It is easy to treat these issues as merely the failings of individuals and the shortcomings of the latest procurement rules. It is easy to park the unholy affair under the general head of how corruption is undermining our nation. To do so would be to ignore the underlying causes of why things have some to such a pass.
The first is the dogmatic pursuit of indigenisation, a mindset that pervades the defence establishment. It has resulted both in policy capture by public sector unit (PSU) network and introduced layers of complexity in procurement rules. Ordinarily, as end users, the armed forces would want the best possible equipment for the rupee, but they too are prisoners of a narrative that involves the pursuit of a chimerical indigenisation. For in New Delhi, it is still nearly heretical to suggest that an enemy killed by a foreign-made bullet is as dead as an enemy killed by a partly-indigenous bullet.
This is not say indigenisation is an unworthy goal. Rather, it is to suggest that the longstanding approach to indigenisation has not only met with limited success but also that the same goal can be achieved using different means. Back in the 1970s and 1980s the government couldn’t produce an indigenous passenger car no matter how many it purchased from Hindustan Motors and Premier Automobiles. It was only after the liberalisation of the economy and the entry of foreign competitors that Tata Motors, Mahindra and others could produce automobiles that are not only indigenous but also in the same league as their foreign competitors. The route to effective indigenisation, therefore, is counter-intuitive. We must open our defence sector to foreign investors so that Indian industry can acquire the capabilities to produce the equipment our armed forces need.
This cannot be achieved by offsets that require foreign suppliers to spend part of the contract price in India. Offsets might re-inject part of the defence expenditure into the domestic economy but will not result in the transfer of knowledge, skills and human capital that are essential for India to build a modern defence industry. The most effective way to get there is to open doors for foreign direct investment in defence manufacturing. Capping the foreign equity at 26% has attracted few investors. Instead of arguing over another arbitrary level at which to set the cap, we should do away with it altogether.
The second is the equally dogmatic anti-middleman mindset. Going by the statements of the defence minister, it would appear that middlemen—like their lobbyist cousins—are uniformly evil and therefore ought to be banned outright. Yet middlemen are not the cause of corruption. Rather, both middlemen and corruption are the twin offspring of the same parent—complex procurement rules.
The more complex a set of rules, the more the need for ‘specialists’ to help navigate through them. The reason lawyers and chartered accountants exist is because the law and the tax code are complex. Middlemen exist because they perform a useful economic role. There’s nothing intrinsically wrong or immoral about them. It is our rules that make them so, driving underground a genuine economic activity.
Why do we have complex procurement rules? Because we have overcrowded them with multiple, sometimes conflicting objectives. Changing our approach to indigenisation as argued earlier can simplify them to some extent. Even so, it is unlikely that they can be simplified enough to eliminate the need for agents. That is why instead of prohibiting middlemen in defence procurement, a far better policy would be to create a regulatory framework under which they can operate legitimately.
Agents could be required to declare their past and current affiliations, and disclose relevant family connections. Former defence officers and their civilian counterparts could be required to serve out a cooling off period before getting into the business. The policy objective ought to be to align—to the extent possible—the economic incentives of the middlemen to the organisational interests of the armed forces. We don’t have to like lawyers and chartered accountants in order for us to let them discharge their economic roles. Why should it be any different with middlemen?
The final cause of the mess in our defence procurement is that we often ignore the geopolitical consequences of our purchases. Awarding the tender to the lowest bidder might be the best method to resurface parade grounds but not for billion dollar purchases of equipment. To treat both purchases the same way would be to lose strategic leverage that comes from being able favour a country which can give us something else that we need. Blacklisting companies from friendly powers exposes us to purchases from less friendly ones.
The biggest argument for indigenisation is that reliance on foreign suppliers is risky because supplies can be withheld in order to coerce us. That risk can be mitigated if we procure military equipment from countries with which we have extensive economic ties, and vice versa. Reducing the incongruence between our top trading partners and our top arms suppliers ought to be an important policy goal.
The ghost of Bofors continues to haunt our defence procurement. Avoiding stepping on the dung on the road is now more important than getting to the destination. As the defence minister admitted in parliament, the pace of modernisation is slow because every allegation of corruption is investigated. This leaves us with the unfortunate implication that that anyone, from an inimical foreign power to a disgruntled equipment vendor, can apply brakes on the modernisation process. The ghost must be exorcised by liberalising the defence manufacturing sector and getting rid of the superstition that passes off as strategy.
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