Mongolia Spending Glut Risks Bust on Outlook, IMF Says

Mongolia Spending Glut Risks Bust on Commodity Outlook
A truck drives through a coal mine in Mongolia. Mongolia is China's top coking coal supplier. Photographer: Doug Kanter/Bloomberg

Mongolia’s economy, which grew 20.8 percent last quarter, risks contraction along with a global downturn in commodity prices partly due to a surge in state spending, according to the International Monetary Fund.

Government spending jumped 50 percent in real terms to 6.3 trillion tugrik ($4.6 billion) this year, pushing inflation in the $8.4-billion-economy to 14 percent, Steven Barnett, IMF’s head of Mongolia coverage, said in an interview in Tokyo. That may drive up borrowing costs and cut the profitability of mining projects, Mongolia’s biggest industry, he said.

“The global economy is in a dangerous phase and what that means for Mongolia is a higher-than-normal chance that commodity prices fall,” Barnett said. “Their spending plans could not be realistically financed if there was a repeat of the 2008 shock. They’d have to cut spending. This is ‘boom-bust’ policy-making.”

Mongolia, which needs to invest as much as $68 billion within four years in new mines, roads, and housing, contracted by 1.3 percent in 2009 due to the global economic crisis. As the country’s development bank begins the sale of Mongolia’s first state-guaranteed foreign bonds this month, investors are cutting their bets on commodities to a 31-month low.

A struggling U.S. economy and a slowdown in China will join a looming recession in Europe to reduce commodity demand, “creating significant risks for emerging market investors,” Bank of America Corp. said this month in its 2012 outlook.

Country Risk

China’s top coking coal supplier in July, Mongolia turned to the IMF for a $224 million loan to help survive the 2008 global economic crisis. Mongolia expanded 6.4 percent last year and is on course for 16.9 percent growth this year, according to the IMF.

“It’s looking a lot like what happened in 2008, when there were several years of rapid increases in government spending at a time when mineral prices were high,” Barnett said. With the global economy also starting to resemble the 2008 downturn, the country risks seeing its resource revenue shrink, he said.

The rise in state spending, which now accounts for two-thirds of Mongolia’s economy outside of mining, compared with 53 percent in 2007, comes ahead of parliamentary elections in June. It also anticipates a 2013 startup of the Oyu Tolgoi mine, which operator Rio Tinto Group has said is one of the world’s biggest untapped copper and gold finds and potentially a source of 30 percent of Mongolia’s gross domestic product by 2020.

Inflation Concern

Government spending is on course to accelerate inflation to an average 18.7 percent in 2012 from 10.2 percent this year, IMF said in a Nov. 29 report. Wages are estimated to rise 80 percent over three years through 2012, Barnett said. IMF strips out food and administered prices from inflation metrics to focus on “aggregate demand,” he said.

Mongolia’s proposed budget for 2012 “would set an all time record for expenditure growth,” World Bank’s lead Mongolia economist Rogier van den Brink said in a Dec. 16 blog posting on the bank’s website. A continued boom in foreign investment in Mongolia is not guaranteed next year, while the risks to the global and especially China’s economy continue to grow as commodity prices stumble, he said.

Investor enthusiasm for Mongolia has waned since the summer as Europe’s sovereign debt crisis deepened and concerns about resource nationalism grew. In September, a group of Mongolian lawmakers called for a revision of the Oyu Tolgoi mine accord with Rio Tinto and partner Ivanhoe Mines Ltd., which had taken six years to conclude.

Losing Ground

From being the world’s best performer in the 12-months to April, the MSE Top 20 Index of Mongolia has since plunged 18 percent, more than the benchmarks in the U.K. and the U.S. The tugrik, the second-biggest gainer against the dollar in the year to April 1, has lost 13.6 percent since then, ranking at 158 in terms of global currency returns.

Standard & Poor’s credit-rating company on Dec. 19 revised its outlook on Mongolia to positive, saying it may raise the BB-long-term sovereign rating should the country’s fiscal, monetary and banking rules reduce “vulnerabilities in these areas.”

The credit company also praised Mongolia for introducing a fiscal responsibility law, which is supposed to limit budget deficits to 2 percent of gross domestic product from 2013.

That’s one goal Mongolia will struggle to meet under current spending plans, IMF’s Barnett said. After next year’s spending increase, which may be around 15 percent, Mongolia will need to cut expenditure by the same percentage in 2013 to comply with the law, he said.

“You’re really putting the economy on a roller coaster,” Barnett said.

(Corrects surname in second paragraph of story first published Dec. 23, 2011.)
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