Why Mongolia must master its reticence in resources

Asiamoney, December 2008

You had to go a long way in September to find anyone who thought it was a good idea to launch a US$300 million debt programme. Specifically, you had to go to an upstairs side-room of the State Palace in Ulaanbaatar, Mongolia. In world capital market terms you can’t get much further off the beaten track than that.

Here, on September 10, Khan Bank CEO J Peter Morrow announced that his bank was growing so aggressively and successfully that it needed international funding to keep up. And if that seemed a contrarian sentiment at the time – this was the week Lehman Brothers’ share price began its final plunge towards bankruptcy – then Morrow certainly wasn’t alone. The following day ING, the sole lead on the global medium term note programme for Khan Bank, formally opened its first office in Ulaanbaatar. And that night, crowds of foreign bankers and investors were treated to a show of contortionists and throat singers at a party celebrating the launch of a whole new Mongolian investment bank, by Eurasia Capital Management, which earlier this year launched a Mongolia-dedicated fund.

To judge the mood in Ulaanbaatar, it was as if nobody had heard of the credit crunch or the crisis on Wall Street. So what’s so special about Mongolia?

Chiefly, the fascination with Mongolia comes down to mining. Although the commodities boom has flagged recently, the last few years have been a very good time to be a quarry for the world. Mongolia has commodities in abundance: 100 billion tons of coal reserves (ranking fifth in the world, and with the largest reserves of coking coal), 1.5 billion barrels of oil reserves, 8% of the world’s potential copper, and plentiful gold, silver, uranium and other minerals.

This bounty prompts Tim Condon, ING’s chief economist and head of research for Asia, to note: “Mongolia’s rich resource endowment should make it Asia’s fastest growing economy.” It’s already right up there, as the attached chart shows: GDP growth was 8.4% between 2002 and 2006, 9.9% in 2007, and 10.2% in the first half of 2008. Even allowing for a slowdown in the second half, the official growth forecast for 2008 is 8.7%. That, notes Randolph Koppa, president of the Trade and Development Bank of Mongolia, “is now on par with Asia’s strongest: China, India and Vietnam.”

But has Mongolia blown the advantage of its natural resources? These opportunities have been well-known to foreign investors for years yet the biggest mines look no closer to getting underway than they did then. Take Oyu Tolgoi, which ought to be the poster-child of Mongolian mining. Discovered in 2001, it is being developed by Ivanhoe Mines and Rio Tinto in the South Gobi, and when completed is expected to produce an average of a billion pounds [lbs] of copper and 330,000 ounces of gold a year over 35 years. Peak production rates, reached about six years after initial production, would be higher still, creating one of the world’s largest copper and gold producers.

The impact of Oyu Tolgoi on a small economy should be extraordinary. It is expected to be a $4 billion build-out taking place over 25 months, suggesting spending of $160 million a month; it’s likely to involve 10,000 people, with a permanent staff of 5,000 when the mine is built, most of them Mongolian. Ivanhoe has stated that the mine should produce an average increase of 34.3% in Mongolia’s real GDP up to 2043, as well as an average increase in nationwide employment levels of 10.3%, nationwide real per capita disposable income of 11.5%, and a total contribution of US$7.9 billion to the government. (Quite what those figures would end up being depends in part on the final negotiated agreement.)

And Oyu Tolgoi’s not the only mine: also on the table is Tavan Tolgoi, a $2 billion project to mine the world’s biggest coking coal deposit, and a number of smaller projects.

Yet getting on for a decade after their discovery, the investment agreements to get them going beyond the exploration stage are still not in place. The problem is, the sheer scale of the potential windfall to Mongolia has prevented it from ever being realised, so severe are the consequences of botching the mining agreements. Before anything can move forward, revisions have to be passed to Mongolia’s mining law, designed to ensure the state participates in the benefits of its own minerals.