November 1, 2010

How bazaar?

Robert Frost, the iconic American poet, once wrote: “We dance around in a ring and suppose, but the Secret sits in the middle and knows.” Since defence establishments around the world struggle with justifying the costs of securing national defence, a question must be asked: is there a ‘secret’ to defence procurement, one that allows consistently maximum defence at minimum cost?

The answer probably lies in the goals of each national establishment. In the era of preponderant American power, second-tier powers, such as those in Europe as well as Australia and Japan, have been able to ‘outsource’ their extended deterrence to the United States. By doing so, they are   essentially bandwagoning with American power, while focusing the bulk of their attention on domestic development.

At the highest level for any modern state, decisions on procurement for national defence are influenced by force sufficiency in relation to perceived threats. However, secondary concerns such as national prestige and commitment to alliances also weigh on budgets. Arguments about technological sophistication in relation to the perceived threats are subsumed by those about force sufficiency.

A key variable in the attempts of defence establishments worldwide to maintain technological advancement is the size of the domestic market. In the recent past, attempts in Europe to innovate independently of the United States in projects such as the Eurofighter Typhoon and the Airbus A300M have been beset by inflated costs in part due to the size of the anticipated market for each system in relation to their level of technological advancement.

The US spends twice as much on national defence as the rest of NATO combined, and about 50 percent of the money spent by the rest of the world put together. Its defence establishment, focused on the maintenance of a technological edge over any perceived or future competition, prizes the culture of innovation.

That culture of innovation is fed by the size of the US domestic market—the US defence budget is close to $700 billion annually. Development contracts are frequently funded on a “cost-plus” basis, leaving no incentive for competing vendors to cut costs. Concomitantly, instead of over-specifying requirements, US military users usually specify a problem set and let the vendor community innovate and suggest a solution. The way most programmes are run, two competing solutions are chosen to receive funding through to prototypes.

Partly as a consequence of this premium on innovation, several US programmes in the recent past have suffered cost overruns against their planned budgets. Yet, as the US values maintaining its technological edge on the battlefield, this core theme will likely survive the structural changes that are being sought by Robert Gates, the US defence secretary.

In response to cost overruns, multilateral co-developments have been sought by countries in the last decade. Projects such as the F-35 and the Typhoon are two examples of such co-developments, but they’ve each had their own problems in managing costs. Regardless of these problems, one sees more co-developments in the future as they are a way to share innovation risk across national boundaries.

For many of the other major defence manufacturers in the world—Britain, France, Russia and Israel—their domestic markets are not large enough to sustain cutting-edge innovation and deliver solutions for national defence. Their defence industrial bases need to export to survive.

One measure of the need for countries to export for the sake of their domestic industry is the volume of total exports as a percentage of the total defence budget. For the United States, that figure is around 3 percent. For Britain, about 20 percent; Russia 21 percent; France 25 percent and Israel, 42 percent.

Therefore, for each of these countries, positioning their industry for exports might play a key role in decisions on domestic procurements.

However, that doesn’t completely hold in every case. For instance, France can be seen as different from Israel, which used offsets to build several parts of its domestic industry into key cogs in global supply chains for major defence companies. South Korea is another example of the latter paradigm: for instance, it used offsets from the F-16 program to develop an advanced jet trainer which could be exported to the United States and other countries.

All of this is intended to preface a discussion about India and defence procurement. While there are signs of change, the Indian system is set up to procure defence equipment in a product-based, low-cost approach. Only the Future Infantry Combat Vehicle (FICV) program is the first major procurement to be classified as ‘make’. It will follow the US model, where two competing test-beds will be funded up to 80 percent by the government.

Services Qualitative Requirements (SQRs) frequently over-specify requirements, and trials are mandated on a no-cost/no-commitment basis, which can create a vendor-adversarial environment. Not just in India, but in any country, procurements conducted as pure case-by-case purchases can turn into a high-tech bazaar as the premium is on cost.

The scale of India’s foreign procurements, as its armed services undergo modernisation, has drawn the interest of foreign vendors, but the conditions under which some procurements are conducted has forced some of them to withdraw.

Rather than focusing on procedural issues in this debate, which are technicalities, one would pose a more high-level question: in light of a detailed offset policy and a stated goal to energise the Indian defence industry into being a major exporter, should India base its procurement decisions partly on which purchase option would permit Indian industry to export the most? To do that, the scale of the existing global supply chain for a specific technology or system must be factored into the procurement decision.

Traditionally, India’s defence establishment has placed a premium on ‘self-reliance’ as guiding procurements. However, to date, the level of technology transfers that have come into India for licensed production have not created a vibrant industrial base that is able to innovate. Offsets by themselves are not a vehicle to redress this gap, unless accompanied by a national strategy that focuses on targeting their benefits to create or incentivise the development of globally capable companies, whose products can be exported.

While India’s defence procurement budget is growing, by scale that budget is comparable not to a country like the United States—whose domestic market is large enough to subsidise innovation without export—but to other major exporter countries who seek technological currency domestically.

If India wants its domestic industry to attain technological currency for its own forces, it might do well to give them every chance and incentive to succeed at exports. To do so may mean basing foreign procurement decisions on factors such as the offset-incentivised export potential that would accrue to Indian industry.

There is no ‘secret’ to providing for maximum national defence. Every country struggles with justifying the large amounts appropriated from its national exchequer for this purpose. But, for India, the key question remains to be answered—how much does the national establishment place a premium on the growth of its defence industry, public and private?

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