Massive mineral wealth is transforming the Mongolian economy as a whole, with mining-related foreign direct investment (FDI) driving strong growth and rapid modernisation. However, reining in inflation, developing fair environmental regulations and improving infrastructure remain major challenges for the government.
The European Bank for Reconstruction and Development (EBRD) predicted in July that the economy will grow by 9% this year, with this rate accelerating to 12% in 2012 due to increasing FDI in the mining sector, which the EBRD says made up 26% of GDP last year. The country is estimated to hold more than $1trn in probable mineral deposits of coal, copper, gold and uranium.
The country’s exports rose 52.3% in the first half of 2011 to a total value of $2bn, some three-quarters of which were coal and other minerals, with 90% going to Mongolia’s number one trading partner, China. Meanwhile, imports reached $2.7bn, more than double the same period of last year, according to the National Statistics Committee.
FDI rose to $1.2bn in the first five months of 2011, meaning this year’s level will likely surpass last year’s historic high of $1.4bn. Tax revenues were also up 57% year-on-year and non-tax revenues up by 72%, according to the government’s “First Half of 2011 Bulletin”, released in July. In the same month, the Economic Department revealed that foreign exchange reserves as of June 30 stood at $2.5bn.
These increases saw Mongolia’s year-to-date fiscal balance swing into a surplus of MNT98.4bn ($78.7m), compared with a MNT167.5bn ($133.9m) shortfall recorded during the same period a year earlier, according to the Emerging Europe Monitor.
Confidence from rising FDI and government revenues over the last decade can be seen in steep increases in planned state spending, with the recently approved 2011 national budget set at MNT4trn ($3.2bn), amounting to more than half of GDP, according to the World Bank.
While those figures help illustrate the country’s potential, risks remain in the shape of an inflation spike and, for mining investors, environmental regulations. Given the economy’s lack of diversity, there is also the spectre of a fall in commodities prices should demand from China slow.
Despite passing a stringent fiscal stability law in 2010 that requires the deficit not exceed 2% of the budget, the government plans to run up red ink equivalent to more than four times that amount this year, Bloomberg reported in July. This could drive up inflation and the value of the tugrik, which would make non-minerals parts of the economy, such as the cashmere industry, less competitive.
The country has historically struggled with high inflation, with the year-on-year rate reaching nearly 30% in 2008. While the Mongol Bank (the central bank of Mongolia) announced in April that the rate had fallen to 8%, a recent World Bank survey in co-operation with the IMF stated that inflation may reach 25% in 2011.
While openness to FDI has been credited with driving monetary inflows, spurring modernisation and creating jobs, investors are concerned over regulatory and legislative trends in environmental law, taxation and mineral rights.
“Specific governmental acts regarding foreign involvement in Mongolia’s nascent uranium sector, as well as preferential treatment for state-owned mining ventures, have spurred criticism that the government is curtailing the rights of foreign and domestic private investors in favour of the Mongolian state,” the US Department of State wrote in a 2011 review of Mongolia’s investment climate.
The regulations issue comes more sharply into focus as the key Oyu Tolgoi (“Turquoise Hill”) copper-gold project develops, with Ulan Bator signing an investment agreement for the country’s natural resource centrepiece in July. The mine is estimated to hold some $350bn of probable reserves of copper, gold and silver. It is jointly owned by Toronto-listed Ivanhoe Mines, global mining giant Rio Tinto and the Mongolian government, and will become the world’s second-biggest copper mine, behind Chile’s Minera Escondida, after its opening, scheduled for 2013.
Another major project is the Tavan Tolgoi coal mine, which has proven reserves of 6.4bn tonnes. Last month the government granted Chinese conglomerate Shenhua Group a leading 40% share, leaving a Russian-Mongolian concern with 36% and US firm Peabody Energy with 24%.
While the vast and as yet untapped mineral wealth is a boon, avoiding the resource curse that has caused income inequalities, governance problems and corruption in other countries will be a test for the government, with tightened financial regulations also needed to ensure the expected flow of FDI does not destabilise the country.