A good case for India to lose?

The Centre is trying to force domestic sourcing of solar-power equipment, which may be a mistake

Amidst all the righteous indignation generated by the now-returned Italian marines, another international dispute that India is involved in has slipped somewhat into the background.

On February 6 this year, the US notified the Secretariat of the World Trade Organisation (WTO) of a “request for consultations”, WTO-speak for the formal initiation of a dispute, with India on mandatory domestic content requirements for solar cells and solar modules under the Jawaharlal Nehru National Solar Mission (NSM). Given that the potential size of the solar power market in India is significant, and that many of the larger manufacturers are US-based, this is an important issue for the US. Japan and Australia have also asked to join the consultations.

Phase I of the NSM required that for projects using modules with crystalline silicon technology all modules be sourced from India, while leaving it open to developers using thin-film technology to source modules from anywhere in the world. This was clearly accounting for the fact that most manufacturers in India use crystalline silicon technology.

As it turned out, imported thin-film modules were cheaper and there weren’t enough domestically produced crystalline silicon modules in the Indian market, as a result of which most project developers sourced their equipment from overseas.  

The US contends that these domestic content requirements violate provisions that effectively require equal legal treatment to products imported from one contracting party, such as the United States, into another, such as India, as to similar products manufactured in the importing country. From statements made by officials of the ministry of new and renewable energy (MNRE), it appears that they are inclined to argue a “government procurement” exception, set out in Article III:8 of GATT 1994. This provides that the equal treatment principle does not apply to laws and regulations that relate to “procurement by governmental agencies of products purchased for governmental purposes and not with a view to commercial resale…” (Emphasis added).

Is there some legal merit to this defence? Probably not. Even if the subsidiary of the government-owned NTPC mandated to purchase power generated under the NSM is considered a government agency, thereby qualifying its purchases as “government procurement”, it is highly debatable that this procurement is for “government purposes” merely because it is made under a government programme. Further, given that this solar power is sold to distribution companies and ultimately to private consumers, it is clearly intended precisely for the purposes of commercial resale. Reports indicate that the ministry of commerce itself is not too convinced of the robustness of the MNRE position.

In fact, the WTO has already considered a very similar issue in a case brought by Japan and the European Union against similar domestic content requirements in the Ontario Power Authority’s feed-in tariff programme. The Canada-Panel Report, effectively the ruling of the WTO on this matter, held that the electricity procured under Ontario’s feed-in tariff programme was consumed in exactly the same manner as electricity from other generation sources and therefore did not merit separate treatment. Given that the mechanism under the NSM works in a very similar manner, the same logic would apply here. (Note: Canada has appealed aspects of the case to the WTO appellate body).

The perceived economic and policy benefits of the NSM domestic content requirement are also questionable. The NSM was introduced with the primary objective of building 20,000 Mw of solar energy capacity by 2022. Now, it would be reasonable to assume that the MNRE would like this huge solar capacity addition to take place at the lowest prices possible, especially given that solar power is currently at least three times the price of thermal power.

In theory, and most likely in practice, mandatory domestic content requirements go against this imperative. Admittedly, one of the stated objectives of the NSM is also to promote manufacturing in the solar sector in India. But this should not come at the cost of making power more expensive. If American- or even Chinese-made modules are cheaper, developers should be able to import these. Domestic content requirements also potentially deny Indian power producers the benefits of the latest technology improvements in crystalline silicon technology.

What the MNRE risks doing through the domestic content requirements is to encourage inefficient, competition-insulated, production in India. Over time, it must be assumed, if the cost of production in India is low enough, Indian and international companies will establish manufacturing facilities here to supply solar power producers. Perhaps aspiring Indian solar manufacturers should instead be encouraged to make solar technology acquisitions overseas, as the Chinese and Koreans have done in the recent past.

And it isn’t as if the government does not have other, WTO-compliant options to encourage domestic solar manufacturing and arguably foreign investment in India’s solar industry, without necessarily raising the price of power. These can include specific subsidies to domestic solar manufacturers, fiscal measures such as deemed export benefits leading to exemptions from terminal export duty, profit-linked deductions under Section 80IA of the Income Tax Act, VAT deferrals and low cost financing through IREDA.  

Finally, domestic content requirements cut Indian developers off from one of the few sources of relatively cheap project finance available in the international market. Loans from export credit agencies such as US-Exim Bank are only given if the developer buys equipment from the country whose export credit agency is providing the loan.

Perhaps as a negotiation ploy, India has, citing WTO requirement, now asked the US, to provide full details of any renewable energy programmes with local content requirements, listing four schemes about which it had specific questions. These include Michigan’s renewable energy law, Los Angeles’ solar programme, California’s programme of self-generation and incentives for solar power offered in Texas. Let’s see how that turns out. In the meanwhile, it is anticipated that Phase II of the NSM might split the procurement into two, one with and one without a domestic content requirement, perhaps trying to counter the US WTO case.

Nevertheless, given the weakness of India’s likely defence to the United States’ case, the relative lack of support from the ministry of commerce for India’s position and with even Farooq Abdullah, the minister for new and renewable energy, warning local manufacturers to come up with a strong defence if they want domestic content requirements to stay, it appears that India may well lose this one. And, unlike in the case of the Italian marines, that might not be such a bad thing.

The writer is a partner at Trilegal