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FOREIGN DIRECT INVESTMENT IN DEFENCE SECTOR, INDIA

FOREIGN DIRECT INVESTMENT IN DEFENCE SECTOR, INDIA

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Published by Pallav Palit

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Published by: Pallav Palit on Jun 23, 2011
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FOREIGN DIRECT INVESTMENT INDEFENCE SECTOR IN INDIA
PALLAV PALITSTUDENT3
RD
YEARNATIONAL LAW UNIVERSITY, LUCKNOW23 JUNE 2011
 
 
INTRODUCTION
India ranks among the top ten nations in the world in terms of defence expenditure. It is one thelargest importers of defence equipment. India has emerged as the world's largest arms importer overtaking China which shared the second spot with South Korea followed by Pakistan.
1
India¶sdefence budget has grown 13.4% since 2006-07 to touch Rs1.5 trillion in 2010-11. The production of defence industry has been under the purview of the government since the FirstIndustrial Policy outlined in the Industry Policy Resolution of 1948. The Industrial PolicyResolution, 1948, restricted the entry of the private sector into this industry. The main reason for keeping such a strong control and regulation by the government over the defence industry is because of its strategic and critical nature. Owing to such industrial policy of the government, thecountry depended mainly on import of defence equipment from other countries. According toestimates, nearly 70% of India¶s defence requirements are met through imports, with only 30% being met through domestic production.
2
Even after being among the nations with the largestdefence budgets, it fails to possess a µstate of art¶ defence preparedness. The defence equipmentof the country is vintage and needs replacement. The indigenous R&D has not kept pace with therequirements of present day warfare and manufacture through transfer of technology to PublicSector Units and Ordnance Factories has proved to be an ineffective and slow process.The landmark change in the government¶s policy on participation of private sector and influx of Foreign Direct Investment (FDI) in defence sector came into force in May, 2001 vide Press Note4 of 2001 Series, where the government amended its policy on absolute restriction on participation of private sector in defence industry and permitted 100% for Indian private sector  participation, with FDI permissible up to 26%, both subject to licensing and Governmentapproval. Subsequently, the Department of Industrial Policy and Promotion (DIPP) issueddetailed guidelines, after consultations with the Ministry of Defence , for the issuance of licensefor the production of arms and ammunition in January 2002 (Press Note 2 of 2002 Series). Thechange in the policy was primarily directed toward the idea of establishing an indigenousdefence industry through the participation and contribution of private sector companies andforeign companies.
 
1
Stockholm International Peace Research Institute (SIPRI) Report, March, 2011
2
Enhancing the role of SMEs in Indian defence industry-report by Ernst & Young and CII-2009
 
Need for FDI in defence sector
FDI is not just a question of getting funds, but access to the latest technologies. FDI pre-supposesa long term commitment and lasting relationship between the foreign and local enterprise. FDIsets in motion a chain reaction wherein FDI upgrades local technology which, in turn, attractsmore FDI with higher technology and the cycle goes on. This is of vital importance to thedefence sector which is highly capital intensive and undergoes rapid obsolescence of technology.The collaborations of public sector utilities or private sector companies with the foreigncompanies will lead to growth of cut throat competition in the industry, leading to production of state of art defence equipment. The major problem in the indigenous defence manufacturingunits in india is the lack of adequate technology needed for repair, modernization or upgrade of the equipment. The introduction of foreign giants in defence manufacture will tackle suchdrawbacks with ease. Other than the increased Àow of funds from a foreign source, greater FDIleads to more employment opportunities for the local population. It also means that taxes andother revenues will Àow back to the local economy. A large share of Indian foreign exchangegoes towards defence purchases. Allowing more FDI in defence would result in significantsavings in foreign exchange, as more foreign companies will establish defence industries inIndia. Thus, the introduction of FDI will lead to more efficient, indigenous and self-reliantdefence sector, capable of producing high standard modern weapons of warfare.
FDI regulations in defence sector
RBI has issued
 Foreign Exchange Management (Transfer or issue of security by a personresident outside India) Regulations, 2000
(hereafter referred to as the µ
 FEM Regulations, 2000
¶)
Section 5 of the µFEM Regulations, 2000¶ 
provides that a person resident outside India (other than a citizen of Bangladesh or Pakistan or Sri Lanka) or an entity outside India, whether incorporated or not, (other than an entity in Bangladesh or Pakistan) , may purchase shares or convertible debentures of an Indian company under Foreign Direct Investment Scheme, subjectto the terms and conditions specified in
Schedule 1 of the µFEM Regulations, 2000¶.
 

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