Resumption of trade with China will support growth
Despite the full reopening of the country in 2022, economic recovery was dampened by the gradual easing of Covid-related restrictions at the Chinese border thereby restricting trade between the two countries and on which Mongolia’s mining sector depends. The mining sector, which accounts for nearly half of the country’s GDP, continued to contract as a result. In 2023, economic momentum should gain pace with the lifting of most of the restrictions at the border with China, the latter representing nearly 90% of total goods exports. Two new train lines linking the countries should also accelerate exports. After delays due to the pandemic and negotiations with the Mongolian government, the expansion of Oyu Tolgoi, one of the world’s largest copper and gold mines, should begin operations in the first half of 2023 and support mining production. Robust demand for copper in a global context of energy transition and electric vehicle development will buoy demand. This would, in turn, drive private investment, which is set to continue its strong expansion trend. Household support measures such as cash handouts through the Child’s Money Program, and a lower unemployment rate will drive private consumption (52% of GDP). Nevertheless, household spending will continue to be curbed by high inflation, which affects real income and purchasing power. Mongolian Tögrög depreciation (-17% in 2022) and supply disruptions on basic imports in the wake of international sanctions on Russia on which Mongolia wholly depends for fuel, will continue to create inflationary pressures. With inflation consistently exceeding the Bank of Mongolia’s inflation target of 4-8% from August 2021, the central bank started increasing its policy rate in January 2022. By February 2023, it had raised the rate from a record low of 6% to 13%.
External debt poses high risk to public finances
After demonstrations demanding the government to cut wasteful expenditure, Parliament passed an austerity law in April 2022. It involves spending cuts, mainly focused on the restructuration of state-owned enterprises and administrative costs. This, as well as higher-than-expected revenue collection, helped the government to lower the fiscal deficit to a greater extent than planned. In 2023, government revenue should increase, notably thanks to mining activity. However, higher public spending, particularly on education, health, and welfare, should lead to a bigger budget deficit, although smaller than that seen during the pandemic. Sovereign risk subsists in spite of improved fiscal management. Strong reliance on external funding raises concerns amid high imported inflation, tight financial conditions, and thin FX reserves. In 2021, 95% of public debt was external. While an increase was observed in late 2022, international reserves equalled 3.6 billion USD in January 2023, representing 4 months of imports. While sovereign debt repayments maturating in 2023 and 2024 have been lowered thanks to a debt refinancing programme, pressures from contingent liabilities remain. The Development Bank of Mongolia, which is entirely owned by the government, has to repay an external bond of USD 800 million this year while facing a large share of NPLs.
A smaller but still sizable current account deficit could add to liquidity pressures. A smaller deficit would mainly be the result of a higher trade surplus. The latter is set to grow thanks to greater exports to China while imports from mining investments should moderate with projects gradually reaching completion. However, the current deficit will remain sizeable with the balance of services deficit, affected by Russia’s closure to international tourism, is likely to increase as resumed trade would drive up freight costs. Meanwhile, the repatriation of profits and interest payments should weigh on the income balance deficit. Investment, notably FDI inflows to the mining sector, could fall short of covering the current account deficit. A USD 1.8 billion swap agreement with the People’s Bank of China (PBOC) will need to be rolled over in 2023.
Heightened public frustration
The presidential election in June 2021 consolidated the power of the Mongolian People’s Party (MPP) in the unicameral Parliament, giving the party 62 out of 76 seats since June 2020 and after Ukhnaa Khurelsukh, former Prime Minister and MPP leader, won the election by a landslide.
However, public discontent grew in 2022. The economic and social issues, concomitant with a high level of corruption, has fuelled frustration. Mongolia is ranked 111th out of 180 countries in Transparency International’s corruption perceptions index. In December 2022, a corruption scandal involving officials alleged to have embezzled state coal export profits triggered violent demonstrations. Tensions could resurface over 2023 given the high level of poverty and inequality, and with inflation expected to remain high. As a landlocked country highly dependent on Russian supply, especially for its energy needs, Mongolia has not distanced itself from the Kremlin despite the war in Ukraine. It was one of the nations that abstained from calling for an end to the war and demanding that Russia leave Ukrainian territory at the UN General Assembly in February 2023.