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One of the options under discussion is to set up a non-lapsable defence fund, which was also proposed by the 15th finance panel.
One of the options under discussion is to set up a non-lapsable defence fund, which was also proposed by the 15th finance panel.

Government exploring ways to beat fund crunch in defence

  • In 2010-11, defence expenditure was 2.5% of GDP and 16.3% of central government expenditure, which decreased to 2.1% of GDP and 15.5% of government expenditure in 2020-21

Innovative ways of financing procurement, a non-lapsable defence fund, and tax-free bonds are among proposals being considered by the government to fund national security and some could find their way into the budget.

One of the options under discussion is to allow companies, including defence public sector units (DPSUs), to borrow from the market in order to fulfil defence contracts, according to government officials. This will ensure that the lack of funds does not delay urgent and timely acquisitions, a person familiar with the matter said.

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“That (allowing companies to borrow from the market) is a line of thinking," the person mentioned above said. This would need to be brought in sync with the provisions of defence acquisition and procurement policies.

Another option is to set up a non-lapsable defence fund, a demand that is about two-decades old. This would provide for unspent money allocated to the defence ministry to be saved in a fund and not returned to the finance ministry at the end of the financial year. This has been suggested by the Fifteenth Finance Commission (FFC) as well.

The head of the commission, N.K. Singh, referred to the proposal in an interview to Mint in September last year after the terms of reference of the FFC were changed and it was asked to “examine whether a separate mechanism for funding of defence and internal security ought to be set up and if so how such a mechanism could be operationalized".

The defence ministry had also proposed to the FFC that the government could look at issuing tax-free bonds or levy a cess to raise money for national security spending, a second person said. Another suggestion from the defence ministry was to use some of the money from disinvestment of DPSUs.

Given that the FFC has supported the idea of setting up an expert group for alternative funding mechanisms comprising officials of the defence, finance and home ministries, finance minister Nirmala Sitharaman may announce the constitution of such a committee in her budget speech, the second person said.

With the military standoff with China showing no signs of a resolution, Sitharaman is expected to make provisions for contingency spending, making sure that the capital outlay increases, said Sameer Patil, analyst with the Mumbai-based Gateway House think tank. “It is unlikely that we will see an increase in real terms of percentage or as percentage of the gross domestic product (GDP)," he said of a trend that has continued for about a decade.

In 2010-11, defence expenditure was 2.5% of GDP and 16.3% of central government expenditure, which decreased to 2.1% of GDP and 15.5% of government expenditure in 2020-21. This is despite a recommendation by the standing committee on defence in 2018 that the ministry of defence should be allocated a fixed budget of about 3% of GDP to ensure adequate preparedness of the armed forces. In March 2018, then vice chief of army staff Lt Gen Sarath Chand expressed grave concern at “insufficient" allocation of funds.

With the economy in a recession, the government has already cut back on non-priority spending in FY21 to step up capital expenditure, a priority. The re-prioritization of spending has also focused on projects that entail domestic procurement, rather than imports. The Indian economy suffered a devastating 24% contraction in the June quarter, but the contraction narrowed to a better than expected 7.5% in September.

The Defence Acquisition Policy unveiled in September 2020 provides for leasing hardware as a “means to possess and operate (a military) asset without owning the asset" and adds that it provides a useful way “to substitute huge initial capital outlays with periodical rental payments."

Following this, the Navy took on lease two Sea Guardian drones from a US company. The Navy also aims to lease an unspecified number of anti-mine vessels and naval helicopters as it waits for the conclusion of much larger contracts for such systems to be made in India with foreign collaboration.

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