The Rise and Fall of Minegolia: How Coal Copper and Chinese Demand Drive the Mongolian Economy

Thanks to demand from China – Mongolia’s coal prices enjoyed a spectacular appreciation in value in 2016 and 2017, the price of coal from the country has doubled over the two years and continues to rise. Long queues of coal laden trucks are a regular feature at the Chinese – Mongolian border. This has been a welcome fillip to the Mongolian economy which is dependent on commodity exports of which coal contributed a significant 12% share 2015 (a distant second behind dominant copper with 47%). But Mongolia has reason to be wary of this gift from their southern neighbour.

Just a few years ago Mongolia was awash with miners, financiers and entrepreneurs all attracted by the world’s highest rising GDP and the opening of its crown jewel Oyu Tolgoi a mine stuffed with gold, silver and copper. But “Minegolia” suffered a classic commodity boom and bust cycle as global prices fell away a few years ago, but perhaps the biggest blow came from the Chinese economic slowdown, the country which is the source of 90% of Mongolian demand.

The crash caused political ructions and the fragile fiscal and balance of payments situation the nation’s new government faces today. So when Chinese coal production fell and demand for Mongolia’s produce shot up so dramatically in less than half a year Mongolian’s should have felt the benefit but many in the country are rightly suspicious of commodity led growth, as they have been burned by Chinese led booms so recently.  The demonstration that shifts in Chinese energy policy can change the price of coal so dramatically underlines how over reliant the Mongolians are on their neighbour’s economy.

Tavan Tolgoi

This concern around overdependence on China and convoluted negotiations with foreign investors from the US, Japan and China that have promised to fund the mine has delayed the go ahead of Tavan Tolgoi mine project in Mongolia (surveys suggest it has the largest proven coal reserves in the world). Resource nationalism and memories around the sharp disputes with foreign investors over the Oyu Tolgoi are competing with the need to maintain and improve government revenues. The government issued shares in the mine to all citizens back in 2011, but were embarrassingly forced to buy them back after the planned IPO failed, but this makes the project extremely politically sensitive.

Rio Tinto the U.K listed mining giant has lined up $4.4 billion in financing from leading investment banks for the project – but the Mongolian parliament has yet to pass the necessary legislation to allow the project to go ahead.

Perhaps there should be more urgency, Mongolia has seen its budget deficit soar and its foreign debt increase to USD 23.5 billion (twice the value of its economy), so a turn to the IMF in February 2017 for a US$5.5 billion rescue package was no surprise. The government now led by the recently elected Mongolian People’s Party has already imposed typical austerity measures – a spending freeze and trimming civil servants pay, the fear is that the IMF will impose harsher measures in an attempt to tame its budget. There is an alternative, China could provide a loan, but this would make Mongolia further reliant on its southern neighbour something they are desperate to avoid.

There is widespread disillusionment among Mongolians that the last commodity boom was wasted and poverty levels have increased and there is little to show for the years for the years of stellar economic growth. Infrastructure and services have not seen sustained improvement and poverty levels have returned to pre-boom days.

The current coal prices should be feeding into the wider economy, but unfortunately because of a lopsided deal the state owned Mongolian coal entity ETT is selling to Chinese firms at a much lower realised price compared to the high spot price and private companies have to also reduce their realised prices to compete. The Mongolian government realises its poor position and is negotiating a new “one window policy” which will allow it to standardise coal prices and collect taxes more efficiently.

Unfortunately for Mongolia the coal boom may also be short lived depending on how long China takes to enact further measures to reduce coal’s hold over energy production, or there maybe a shift back to Chinese domestic production which would reduce demand from its northern neighbour. Mongolia will be tied to the flux of commodity prices and Chinese demand for years to come, it must find a way to ensure future booms are not squandered in the same way they have been in the past.

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