Production Linked Incentive Scheme - Purpose and Direction

The production linked incentive scheme (PLIS) is a double-edged sword that must be used very carefully.

 Production Linked Incentive Scheme - Purpose and Direction

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• Birth of a new idea: The Production-Linked Incentive (PLI) scheme has birthed new interest in investing in domestic manufacturing in India. It is claimed it will cost Rs.2 trillion (1 per cent of GDP) over five years, i.e. this is the amount government will pay in subsidy to companies.
• From free market to protectionism: Clearly, the winds of India's industrial policy are blowing inward. Since 2017, India raised tariffs on thousands of tariff lines, covering 60 per cent of imported items. The simple average Customs duty of 17 per cent is now the highest of all emerging economies. PLI is supposed to deepen domestic supply-chains and so, over time, promote greater competitiveness in Indian industry. There is a simple question: will this work?
• Details of PLI: The scheme provides a subsidy, around 4-6 per cent of sales, for firms in 13 sectors to make a list of “desirable” end products, components or assemblies.

1. Various ministries publish lists of items to indigenise. Firms propose items they will manufacture in a green-field or brown-field facility with a specified minimum investment that varies by sector and the size of a firm.
2. The scheme goes together with tariffs, fairly high ones, on the finished product and often on the components involved.
3. So mobile phones have, over the last three years, been subject to an import duty of 20 per cent. This prompted most phones sold in India to be locally made, in one of the 270 mobile phone factories, up from two in 2014. But local value addition is very low, around 10 to 20% only.
4. PLI aims to deepen local supply chains with a subsidy on their components. Finished air-conditioners now attract a tariff of 25 per cent, with PLI schemes for manufacturing compressors, control units and other components, all protected by tariffs. PLI incentivises local production of Active Pharmaceutical Ingredients APIs) that are needed to make drugs.

• The goal of it all: These steps prioritise tariffs and import substitution over trade liberalisation and export promotion.

1. Governments in many countries, China and India among them, have rejuvenated the old idea of import-substituting industrialisation (ISI).
2. Various PLI schemes are filled with words like “boost domestic manufacturing”, “indigenisation” and “localisation”.
3. ISI was the prevailing agenda of India's trade policy for the 20 years when Indira Gandhi dominated Indian politics. It did not work then.

• Making it succeed: Local production must lead to greater competitiveness, which in turn is about building technical capability. That requires learning — how to manufacture efficiently, and how to further develop product technology. Investment in R&D is essential to long-run competitiveness in these 13 technology-intensive fields.
• Construction equipment industry: If one compares the construction equipment industry in India and South Korea, interesting facts emerge. Poclain of France licensed the technology to produce hydraulic excavators to L&T in 1973 and Hyundai in 1974.

1. In 1983, the Korean firm made 630 excavators and L&T made 70.
2. Korean excavators sold for 125 per cent of the world price; L&T’s sold for three times the world price. Why so?
3. Indian government policy in the 1970s forced indigenisation and L&T’s excavators had a domestic content of 70-80 per cent, to just 40-60 per cent in Korea.
4. An excessive focus on indigenisation led directly to a lack of competitiveness.
5. In 2021, the British firm JCB is everywhere in the construction equipment industry, with five factories in India, including its biggest worldwide.
6. India is now JCB's largest market, accounting for half of group turnover, and a higher share of profits. JCB uses India as a base for exporting to over one hundred countries, with exports up 300 per cent this year.
7. Export success is the best affirmation of competitiveness there is. JCB is a remarkable Indian manufacturing success story without any PLI subsidy.

• The right learning: The 1970s focus on indigenisation forced Indian industry to learn things that were both useful and useless. Ensuring that learning is useful means choices of which component to make in-house, source locally, or import must be made on purely commercial grounds by the firm itself. R&D effort is essential, but it must be focused on innovation, not indigenisation.
• Taxpayer money spent: The Rs 2 trillion being spent is taxpayers money. That could be spent on building infrastructure and improving logistics to make all of India more competitive instead of benefiting a few firms. But PLI is here, and PLI approvals have been granted for the great bulk of the schemes.

1. Some firms say that the zero date should move forward by two years, so providing two more years of subsidy. Government should not listen to them. Ensure that all conditions attached to the scheme — such as export commitments — are honoured for the subsidy to be paid.
2. Make achievement transparent, and publish the results. India must know which firms have won which contracts for what committed volume, and how each is doing in adhering to the terms of the contract.
3. Clarity on the end date is needed. No company should have any doubt about the duration of the scheme; it runs for five years and there will be no extension. Accompany that with a graded reduction in all tariffs on the finished product and the components going into it.

• Summary: Competing with the best in the world, at home and abroad, must be the sole metric for whether PLI has worked or it failed.
• EXAM QUESTIONS: (1) Explain the idea behind import substitution. Why did it not work out? (2) The role of PLI scheme in Indian industry is a double-edged sword. Explain how. (3) What are the pros and cons of the PLI scheme? Explain.

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