India Defence and Security Report Q3 2012

BMI’s India Defence & Security Report for Q312 examines the country’s strategic position in the Asian region and the wider world. It also provides an overview of the contemporary geopolitical challenges facing the country, and the challenges it may face in the future.

This quarter’s report examines the trends occurring in the country’s current and future defence procurement, and the order of battle across its armed forces. The report’s general conclusion is that there are two sides to the Indian defence story. On the one hand, India remains the world’s largest importer of weaponry, and is moving ahead with the procurement of some highly advanced systems. On the other hand, structural weaknesses within the Indian defence bureaucracy means that procurement programmes remain prone to lengthy delays and overspend, while the local defence industry continues to underperform.

The report also places India’s military modernisation efforts in the context of its geopolitical relations with China, Pakistan and the United States in particular. It notes that relations with all three countries are currently good by historical standards. It also discusses the growing tension between the government and the military, with questions being raised about the preparedness of the army in particular.

Over the last quarter BMI has revised the following forecasts/views:

The progress of several procurement programmes, accelerated in response to criticism from the Indian Army chief, is detailed in the latest report. There is also an overview of other procurement decisions reached in Q212, including the abandonment of plans to have six new diesel-electric submarines constructed by a private Indian shipyard.

The approval of new offset guidelines designed to encourage greater technology transfer and also of the 15-year Long Term Integrated Perspective Planning framework is analysed.

Relations with the US are discussed in the light of inaugural counter-terrorism drills and the embarrassing revelation on the part of the US Pacific Commander that US special forces are operating on Indian soil.

The test-firing of the new Agni V intermediate range ballistic missile, and its implications for Sino-Indian relations, is discussed. The missile puts China’s large eastern cities within range of Indian nuclear weapons for the first time.

A possible opening in talks with Pakistan – specifically, the proposed demilitarisation of the Siachen Glacier – is also detailed.

BMI expects the new regulations on vehicle financing to shape the market in the remainder of 2012. The regulations are not due to take effect until June 15 2102, which we believe will have generated preemptive demand in the months leading up to the deadline. Coupled with the fulfilment of pent-up demand created by the shortage in supplies following the floods in Thailand in late 2011, the strength of sales growth in H112 should be sufficient to prevent a full collapse of the market in H212, although some slowdown in the months immediately after the rules are imposed can be expected.

There are other threats to demand, created by government policy. Just as government incentives to encourage domestic production helped turn Thailand into the 'Detroit of Asia', the Low Cost Green Car (LCGC) scheme had promised to have a similar effect on the Indonesian auto sector, which BMI believes has the potential to challenge its regional neighbour. However, news that the government will instead impose excise tax on LCGCs after waiving the luxury tax could pose a threat to the industry's potential.

The risk to sales is heightened by the popularity of the small car segment. In 2011, sales of cars with an engine of 1.5-litres or less accounted for 77% of total passenger car sales and 52% of total vehicle sales.

On the positive more side, President Susilo Bambang Yudhoyono has pledged to increase the funds available for research and development (R&D) into 'eco-friendly' cars and alternative fuel cars. A deadline of 2014 has been set to start mass production of electric vehicles (EVs), although there is no plan yet in place and Research and Technology Minister Gusti Muhammad Hatta said no carmakers have firmly agreed to be involved. The government has charged a number of universities with developing a strategy for the introduction of EVs, including the supporting infrastructure, which BMI believes is necessary for widespread EV take-up in any country.

Despite threats to demand, companies continue to invest in the country's long-term potential. Italian tyre manufacturer Pirelli has made its first investment in the production of conventional motorcycle tyres.

Although new bike sales are under threat from the country's new lending rules and fuel price hikes, BMI believes the strategy to provide tyres to the replacement market as well as original equipment manufacturers, will cushion the company to some extent. Industry Minister MS Hidayat also announced in March 2012 that Japan's Nissan Motor plans to invest US$400mn to expand its plant in Purkawata.

The plant's annual production capacity will be increased from 100,000 units to 250,000 units by 2014.