Offset costs too

The ministry of commerce, as reported in this newspaper, is in the process of finalising a National Offset Policy to cover all non-defence purchases of more than Rs 300 crore. The logic of the policy, which will cover purchases by both public and private sector companies, is that India needs to leverage its buying power, and the best way to do this is to get the overseas supplier to commit to making certain investments here or buying goods from India. In the past, offsets were a big thing in the defence industry. Indeed, the defence procurement code that was finalised last year says that any supplier who sells equipment of more than Rs 300 crore has to provide an offset worth 30 per cent of the contract value. Other countries, like the UK, have even higher defence offsets, of a minimum of 100 per cent. While the commerce ministry wants to formalise the process, offsets have been used in the Indian Airlines purchase of 43 Airbus aircraft for Rs 10,000 crore. In return for this, Airbus has improved its counter-trade/offset offer from 30 per cent to 40 per cent, and also committed an investment in pilot training facilities, aircraft maintenance and the like. Boeing has offered similar terms for the 68 aircraft Air-India is likely to purchase including a Maintenance Repair and Overhaul (MRO) facility.

Such deals, undoubtedly, have their appeal, but much of the charm looks illusory and we are reminded of the days of foreign exchange shortage, when this was the surest way of earning dollars. But since there is no such thing as a free lunch, the costs of these offsets do get built into the price paid for the original contract. So, if India is not a lucrative enough market for Airbus to set up aircraft maintenance facilities, the extra costs just have to be reflected in the final price of each aircraft. If, however, India is an attractive destination, as it increasingly looks, given the pace at which the industry is growing, it makes business sense for Airbus to set up such facilities anyway, in the same way that automobile firms are indigenising production even though the law does not require them to do so. Despite great pressure from the government in the 1990s, Suzuki refused to set up a gearbox plant in India; today, when the market has grown, Suzuki is setting up the same gearbox plant. Another point worth keeping in mind is that offsets do not necessarily mean they will be honoured. The Russians had thousands of crores of unutilised rupee credits with India and they would auction this at a discount from time to time. This should serve as a grim reminder of an offset policy that didn’t boost exports from India. Indeed, it spawned all kinds of illegal re-routing of exports. Today, however, as Indian exports have become more competitive, they are growing rapidly without any offset policy. The government too tried an equivalent of the offset policy when telecom service providers were obliged to set up rural telephones as part of their licence conditions. Eventually, before the obligations were simply dropped, the firms ended up paying penalties for not setting up rural phones since this was cheaper.

It is, of course, always possible that some critical technology that would otherwise not be available could be got through an offset deal. So there is a case for examining large deals from this perspective, but to impose a broad offset target is foolhardy since it just increases costs. How an offset policy could possibly be fashioned to include the private sector, as proposed, is difficult to comprehend in this day and age.