Electronic System Design and Manufacturing (ESDM) is a high priority area for India because of its ever-expanding influence on various facets of modern living, as well as its potential to generate sizeable direct and indirect employment. In this paper, the focus is on the mobile handset segment of the ESDM, its current status and the policy interventions that would be required for it to attain the targets set for it for 2025.
Importance of the mobile handsets industry for India
The Indian electronics market is growing at a fast pace and is expected to reach $150-175 (out of this $80 billion will be mobile phone) billion by 2025 from a level of $69.6 billion in 2018. India aims to leverage ESDM to contribute 25% to its GDP and become one of the top five global manufacturing hubs and employers in the medium term.
Mobile phones account for about 27% of the electronics industry in India and represent the largest market segment in it. With the imminent transition to 5G technology and the growing popularisation of the Internet of Things (IOT), an estimated 25 billion “things” would be connected worldwide through IOT devices by 2025. This is going to further stimulate the usage of smartphones and the use of the device is going to grow in India from its current level of half a billion to 1.1 billion by 2025.
Mobile manufacturing in India
Mobile manufacturing in India started with Nokia, Samsung, Motorola, LG and Sony Ericsson in the mid-2000s and grew steadily between 2008-2012, reaching over 155 million handsets per annum, of which nearly 70% was exported. However, due to a freeze on assets as a consequence of a tax dispute, Nokia stopped production in 2014 and the component manufacturers supplying to Nokia also had to shut down. In 2014, India’s production dipped to just 58 million units- with marginal exports.
Since 2014, India has started laying a fresh foundation to its industry and according to the Indian Cellular and Electronics Association (ICEA), in 2017 India emerged as the second largest mobile manufacturer globally, pushing Vietnam down to the third place. India produces both feature phones as well as smart phones, though from global trends, it is clear that smart phones would occupy about 80% of the global market and even in India, smart phones would account for around 80% of the market by 2025. Since the technology and scale of investments required for smart phones is much higher than feature phones, this has implications for framing appropriate policy interventions for the industry.
National Policy on Electronics, 2019 and targets
The National Policy on Electronics (NPE) 2019, the successor to the NPE 2012, lays special emphasis on promoting the growth of mobile manufacturing. The ambitious target set for 2025 encompasses producing 1 billion mobile handsets in India worth $190 billion, of which phones valued at $80 billion would be sold domestically and exports would account for 600 million sets worth $110 billion (paragraph 4.1 of NPE 2019). The overall volume and value of production targets for mobile phones in 2025 are respectively 3.4 (1000/290) and 7.6 (190/25) times greater than that actually achieved in 2018-19. The export targets are even steeper, the value of exports being 69 (110/1.6) times that achieved in 2018-19.
Achieving these targets will not be feasible unless India has a coordinated work plan between the government and the private sector, including large “lead” firms, with a global presence, who can help build an ecosystem for component/assembly manufacture in India along with R&D.
Limitations on domestic value addition
A common trend visible across geographies is that 100% value addition for a mobile phone does not take place in a single country. Even in the case of Vietnam and China, these domestic value added figures are respectively 23% and a range from 50% (smartphones) to 90% (feature phones). The experience with Phased Manufacturing Policy (PMP), i.e. the tariff based import-substitution strategy, suggests that India has begun to face difficulties. Inability to produce the more complex parts and components would both delay the progress of the industry and make production of mobile phones more costly and non-competitive. With a continued increase in domestic demand for these phones, there would be a major adverse effect on the overall balance of payments.
One of the implications of this phenomenon is that since domestic market alone will not provide sufficient economic scale for global competitiveness, India’s import bill for components/assemblies will keep on rising with increased domestic production/consumption of the product. In 2018-2019, with a value addition of 18%, domestic production of USD 24.2bn, exports of USD 1.66bn, net foreign exchange outflow was around USD 14.5bn. However if exports were to be twice the size of domestic production and value addition an achievable 25%, then net foreign exchange earnings could become positive. This could happen as early as 2022-23 if the rate of export growth continued to be as high as it was in 2018-2019. Hence the focus of government policy should be on export promotion, not on import substitution through greater value addition.
Strategy shift needed from import substitution to export promotion
In order to overcome this problem, the hitherto followed strategy of import substitution has to be amended by bringing a key focus on export promotion, to achieve the export target of NPE 2019. This strategy would yield significant positive results through achievement of economies of scale, technological upgradation spurred by large global firms, and a strong push to domestic capacity building. For this, an ecosystem involving both domestic and global firms will need to be nurtured, by providing incentives similar to those developed by other major exporting economies. The two major exporting countries are China and Vietnam, which together account for about 70% of global exports, most of it from China. However Indian industry faces a triple jeopardy. First its
exports incentive schemes are facing a potential roadblock because the main incentive to exports have been challenged at the WTO by the US, claiming that they are WTO-inconsistent. Second there are structural problem in production incentives and tax systems as reported by the Indian producers of mobiles. Third its competitors China and Vietnam provide major incentives which reduce their cost of production by about 10-30%. These can be classified as Indian disabilities.
India’s Export incentives under challenge in the WTO
The Indian export subsidy measures challenged by the US in the WTO are the Merchandise Exports from India Scheme (MEIS), the Exports Promotion Capital Goods Scheme (EPCG), Duty Free Imports Scheme for Exporters (as described in Customs Notification no. 50/2017 dated 30 June 2017), Export Oriented Units Scheme (EOUs) including the Electronics Hardware Technology Parks Scheme, and Special Economic Zones Scheme (SEZ). While the MEIS forms the backbone of India’s current export promotion strategy, with direct benefits ranging from 2% to 5% of export earnings, the other three schemes, though still important, do not pose the same problems as a possible withdrawal of MEIS will cause to the industry: the support provided by MEIS is more significant, and these other schemes require simpler steps to make them WTO-consistent. The details of the WTO provisions that these schemes may contravene are provided in Annex 1.
Structural problems and Industry Suggestions
Meetings and questionnaire based discussions were organised with Indian manufacturers/exporters of mobile phones to seek quantitative estimates to underpin the analysis as well as a qualitative assessment of the policy and operational environment in India. The discussion also focused on ways to tackle the perceived disabilities vis a vis China and Vietnam in the global market. The points raised by them fall into three broad categories (with some degree of overlap). First, they listed a set of factors that needed to be borne in mind while framing a policy for promoting exports from the mobile industry. Second, they mentioned specific areas of concern, which affected their competitiveness. Third, was their perception of the changes in policy that could bring about a large impact within a short term (within one year) or in the medium term because such policies would require certain systemic changes).
The first set of suggestions included:- provide direct tax exemption/tax holiday/ tax reduction to compete with manufacturers in other countries; recalibrate or delay the Phased Manufacturing Programme (PMP); provide increased export incentives under the MEIS as long as possible and improved Duty Drawback schemes; provide interest subvention; correct the inverted GST structure; provide credit guarantee for easy availability of funds; ease the conditions for setting up or expanding an existing manufacturing facility; introduce labour reforms to ease retrenchment and closing of establishments; provide flexibility in working hours, especially for women; improve the ease of doing business and help establish a robust design ecosystem (see Table xx).
Key concern raised by the industry included: approved financial incentives are not disbursed on time or delayed inordinately; poor implementation of policies adversely affects the credibility of the announced schemes; major delays in getting approvals; lack of supply of uninterrupted power, and erratic power supply leads to additional costs; more flexible approach required to link SEZ units with DTA in order to utilise idle capacities etc. (see Table xx ).
Among the policy measures/improvements that could yield results in the short term were: address problems in the GST regime; facilitate quick refunds to reduce the burden of working capital costs; need to have policy stability and improvement in the benefits delivery system; create mechanisms for credit guaranty to banks (particularly for domestic companies); make available special loans and provide funding for R&D and design, foreign market building, establishing supply chains/clusters and other skill acquisition; provide funding for exports; a cut-off date in the recent past so that existing investors do not face a non-level playing field due to the introduction of a new schemes; faster customs clearances for exports and imports; creation of a real single window system; interest subvention for long term capex investment and for working capital requirements; in-house training cost reimbursement. (see Table xx.).
A number of suggestions were based on the schemes in Vietnam and China. In addition to some of those mentioned above, they included financial support for land, preparing the land for establishing the factory complex, building; financial support for training, for dormitories built for labour near the factory. In addition, recalling the Baba Kalyani Committee Report, the industry suggested that institutional mechanisms should be established for release of unused land from SEZ. Yet another suggestion was a need to sensitise the industry, patent granting officials and the judiciary to tackle the emerging issue of Standard Essential Patents. (see Table xx).
Disabilities faced by Indian exporters vis a vis support policies of China and Vietnam
Considering the scale of investments, the technology requirements and the imperative of creating an ecosystem to cater to the domestic demand and export targets, the importance of attracting investments, especially global firms, assumes special significance. ICEA has identified ten major factors (with different individual weights), that influence investment decisions. A qualitative comparison of India and China on these factors has been made, based on interviews with potential investors. In this paper, this framework is extended and the situation in Vietnam has also been examined, providing a basis for a qualitative comparison of the relative attractiveness of these ten factors for investors when comparing potential investments in India, China and Vietnam (see Table xx). It reveals that Vietnam is 1.7 times more attractive for investors, while China is twice as attractive.
Regarding disabilities, this report identifies eight broad types of incentives and support policies, common to both China and Vietnam, which are offered to investors. They comprise:- making available quality infrastructure and skills, low charges for use of the infrastructure made available, subsidies for reducing costs and improving competitiveness, improving the ecosystem for the development of the supply chain in the domestic market, stability of policy, ease of doing business, focus on attracting mega-firms or “lead firms” in Global Value Chains, and periodic reviews to revise the incentive and facilitation schemes. In addition to creating a strong export base, these policies also aim to enabling creating the domestic champion firms, particularly in China. In India, this would be eminently possible for the entry level smart phones, provided appropriate policy/incentivization support is provided. Some of the incentives provided in Vietnam are:- Corporate tax exemption/reduction; cheaper investment credit; import duty exemption for machinery, raw materials and construction materials; waiver or reduction in land rents; subsidies for training, R&D, social infrastructure; subsidies for reduction of other operational costs; and incentives for creating an ecosystem of “supporting industries”. The incentives are aimed mainly at reducing costs and increasing retained profits, both leading to higher competitiveness. The cumulative impact of all these incentives in Vietnam vis a vis India has been estimated. It reveals that the cost reduction or competitiveness gains for investors ranges from 9.4% to 12.6% (see Table xx). A similar exercise for China estimates that the weight of disability vis a vis China for investors in India ranges from 19.2% to 21.7% (see Table xx).
Incentive/Support Schemes of the Government
The Indian government has been aware of some if not all these disabilities faced by Indian firms. It has also laid down a framework for providing support schemes for the mobile phone manufacturing industry first in NPE, 2012, which was followed up and expanded in NPE, 2019. The major incentives and support schemes for the sector are as follows: MEIS, the Modified Special Incentive Package Scheme (M-SIPS), Phased Manufacturing Programme (PMP), EPCG, EOUs/SEZs, Duty Exemption/Remission Schemes, duty draw back, Electronics Manufacturing Clusters, Electronics Development Fund and Skill Development Programme. The essential details of these schemes and a brief appraisal of some of them are provided in Chapter 5.
Apart from the central government schemes listed above, some state governments also provide their individual package of incentives to attract investments. The incentives provided by some of the leading states are described in some detail in Chapter 5 and its annex.
Taking account of the disabilities faced by India, the support schemes implemented by China and Vietnam, the concerns and suggestion of Indian industry, this Report provides the policy measures that would help the industry become more competitive, achieve the scale of production and exports that is envisaged in NPE 2019, and create a vibrant ecosystem for mobile phone production in India.