As the presidential election looms, a nationalist rhetoric has hampered investor interest in Mongolia, but experts believe the country’s mineral appeal remains unrivalled. Melodie Michel reports.


Until the first half of 2012, Mongolia was seen as the number one investment destination to watch. Recently-discovered copper and gold resources, and the subsequent cash injection that resulted from them, pushed GDP growth to 15%, encouraging fast development and helping the country reduce public and external debt.

But following the June 2012 legislative elections, the victorious Democratic Party (DP) chose to form a coalition with the Mongolian People’s Revolutionary Party (MPRP) and the Mongolian National Democratic Party (MNDP), both of which promote a nationalistic approach to resource exploitation.

The coalition was a symbol of the new government’s desire to ensure that Mongolians benefit from the country’s mineral wealth, but it prompted a wave of comments and measures seen as red flags by foreign investors.

“There’s always an increase in nationalist rhetoric before elections in Mongolia because it appeals to voters, but the difference this time around is that it continued and increased after the poll,” says O. Hamid, Exclusive Analysis’ head of Asia forecasting.

One of the reasons for this is that Mongolia will hold presidential elections in May 2013, prompting political parties to maintain their nationalist views at least until the poll. “The individuals who classify themselves as resource nationalists have become very significant players in parliament, strengthening lobbying and posing some very serious questions for the mining firms that are planning to get into Mongolia,” Hamid adds.

Chinese domination

The main driver behind Mongolia’s push for more government control over its resources is a fear of being dominated by Russia or China. Landlocked between the two superpowers, Mongolia is highly dependent on them to grow its economy – China currently buys 90% of its exports. But after centuries of Chinese domination, followed by strong Soviet influence since the country declared independence in 1911, Mongolia is trying as hard as possible to keep its neighbours at bay.

As a result, when Chinese state-owned aluminium company Chalco offered to buy a substantial shareholding in SouthGobi Sands – the Mongolian exploration firm owned by Canada’s Rio Tinto, which has a 66% stake in Mongolia’s much-hyped gold and copper mine Oyu Tolgoi – the Mongolian government rushed through a new act of parliament requiring government approval for foreign investment in strategic business sectors. The new foreign investment law specifically states that foreign state-owned enterprises are not allowed to buy a stake greater than 49% in mining projects, and that exceptions can only be made through a vote in parliament.

Despite the fact that the measure was mostly targeted at Chinese firms – most western investors are privately owned so wouldn’t fall under the law’s remit – it created a lot of uncertainty in the international market.

But for experts, Mongolia’s efforts to limit Chinese involvement should be seen as an opportunity for western investors. “Hypothetically speaking, it would be pretty much impossible for a Chinese enterprise to get that parliament approval, and we’ve seen it already with Chalco. But it would be easier for western companies to be approved because they’re not seen as a strategic threat to that sector,” adds Hamid.

In fact, it seems that Mongolians are keen to involve western powers – the ‘third neighbour’ – in its resources, providing more balance between its investors and giving less weight to China.

Another example of this is Mongolia’s recent decision to build a railway connecting the Gobi desert, home of the Oyu Tolgoi mine, to Russia. As the mine is much closer to China than Russia, the move was seen by some as yet another obstacle to Chinese involvement.

But according to Stephen Tricks, consultant at Clyde & Co and director of the Mongolian-British chamber of commerce, the measure is only meant to create an alternative trade route in case of a disagreement with China, which currently handles 100% of Mongolia’s exports to third countries.

“The rail link to the Eastern Russian ports will give Mongolia the opportunity to export overland via Russia if there was a problem with China. The Russian ports are much further than the Chinese ports, so if both Russia and China are co-operating with Mongolia it’s cheaper and quicker for Mongolia to export through China, but the difficulty is that at the moment Mongolia knows that China can effectively close its borders and prevent Mongolia from exporting. The railway to Russian ports will give it an alternative,” he says.

This decision should reassure foreign investors doing business in the country, as it will make it much more difficult to interrupt Mongolian trade flows. But it is not enough to counterbalance the wait-and-see atmosphere created by the wave of resource nationalism.

Tricks adds: “In effect, the new government took an even stronger position than the previous government on foreign investment. Some members of the new government have even talked about renegotiating the investment contract signed between the previous government and Rio Tinto on the Oyu Tolgoi mine, suggesting that Mongolia should take a larger share than its current 34%.

“New investors are asking why they should invest a lot of money in Mongolia if two years down the line a new government can change the contract, so they are waiting to see what happens to the Oyu Tolgoi agreement.”

Trouble at the mines

At the end of January, the Oyu Tolgoi mine faced another wave of concern, as rumours claimed Rio Tinto was threatening to suspend progress and delay production if the government insisted on renegotiating the terms of its contract. The firm denied the claims and said works were on schedule and the mine would be able to start production in the first half of the year, but its shares fell on international stock markets, reflecting investors’ nervousness.

If the new government does insist on renegotiating, new investors will certainly be discouraged, but in reality, it is unlikely that the government would want to send such a strong message.

“There is an acknowledgment that Mongolia does not have the capacity to benefit from its national resources on its own, so it definitely requires foreign partnerships.

“With the exception of the foreign investment law, although there’s been a lot of debate in parliament and in the media, there’s yet to be concrete policy changes, and it is unlikely that there will be any up to the presidential election. We may well see changes after the election, depending on how that pans out,” explains Hamid at Exclusive Analysis.

Meanwhile, the Tavan Tolgoi mine, one of the largest coking coal deposits in the world, is going through turmoil as Erdenes Tavan Tolgoi (ETT), Mongolia’s state-owned coal company, is seeking to renegotiate its contract with Chalco amidst financial challenges caused by nationalist measures. When the mine started operations, Mongolia launched a handout programme under which the government gave 1,072 shares in Tavan Tolgoi to every Mongolian citizen, showing its commitment to help them benefit from the country’s resources.

In an attempt to gain popularity ahead of the parliamentary elections last June, the government introduced a buyback scheme giving citizens the option to sell their shares for Tug1mn (US$760), or to keep them until the mine was publicly listed. Half of the population opted to exchange their shares, forcing the government to pay a bill of roughly US$1bn – about a tenth of GDP – much of which was borne by ETT.

As a result, the firm was unable to further develop the mine, had to once again delay its public listing – originally scheduled for 2012, and decided to renegotiate the deal signed with Chalco in 2011, under which the Chinese firm injected US$250mn into the project in exchange for coal supply worth that same amount to China.

According to local newspapers in Ulan Bator, Chalco has threatened to take legal action against ETT if it ignores the interests of the other party in negotiations, adding even more tension to the investment climate in the country.

But despite recent controversies, and even if Mongolia were to adopt a nationalist approach after the presidential election, that wouldn’t change the fact that the country’s mining resources are some of the most abundant in the world, making it impossible for investors to ignore it.

Hamid adds: “Mining companies have to go where the resources are, irrespective of how bad a political or physical environment may be. They can’t afford to pull out because of the mineral resources that are at stake in Mongolia.”

Trade finance boom

When it comes to trade finance, even nationalist policies couldn’t affect opportunities in Mongolia. With Oyu Tolgoi, the biggest gold and copper reserve in the world, expected to start production in 2013, banks and export credit agencies (ECAs) are showing massive interest in getting involved.

Randolph Koppa, president of Mongolia’s Trade and Development Bank, explains that the mine is trying to put together a huge financing package for further development. “It has been discussed for about a year, and will involve about every ECA in major equipment exporting countries. It’s going to be the largest project financing of a mine in the world at about US$4bn. It will be a multi-faceted financing package with ECAs, international banks and development banks,” he says.

As GTR went to press, Rio Tinto was reportedly getting closer to signing the deal, having invited lenders to visit the mine on January 27 and preparing to send them a request for proposal. BNP Paribas, Standard Chartered, the European Bank for Reconstruction and Development (EBRD), the International Finance Corporation (IFC) and Export Development Canada (EDC) were selected by the firm in 2010 to arrange the financing. According to the IFC, the Export-Import Bank of the United States (US Exim), Australia’s Export Finance and Insurance Corporation (Efic) and the World Bank’s Multilateral Investment Guarantee Agency (Miga) joined the negotiations at a later stage.

Already in the past few years, trade finance volumes have increased exponentially, reflecting the amounts of equipment needed to develop mining projects in Mongolia. Koppa says the rise has been roughly around 30 to 40% over the past three to four years, both in trade and export finance. “The prospects for trade and a variety of structures and ECAs will only increase, and not just strictly trade related to the input and output of the mine. There will be a move towards further processing, which again will be capital-intensive,” he adds.

Standard Bank refinanced and arranged over US$500mn of deals in Mongolia in 2012, and despite the recent debates, the bank’s experts in the country are optimistic about the future. Martin Huxley, head of Standard Bank’s Mongolia operations, explains:
“Of course, the parliamentary elections put some things on hold and internally required increased coverage to our country risk desk given some of the ‘noise’ that comes out in the international media and political rhetoric aimed mainly for local consumption, but this is all part of being a new democratic country.

“Over the last five or six years, we have gained from our first mover advantage and established strong relationships with a portfolio of leading Mongolian clients whereby we have supported their rapid growth. This has resulted in a regular flow of repeat transactions – but significant increased notional amounts and tenor have resulted in increased reliance on the syndication markets, which have limited depth and experience.”

Chris Bradley, Mongolia consultant for Standard Bank, believes the country’s ultimate aims for investment reforms are reasonable and necessary, and that investors should look through the nationalist rhetoric and base their judgment on what history has shown.

He adds: “All developed mining nations have foreign investment statutes and so should Mongolia. And as in all countries introducing statutes for the first time, the process takes time. A lot was made of the government’s action on SouthGobi Resources and Chalco.

However it is not unreasonable to say other mining nations would equally have questioned such a major acquisition in a strategic sector. In fact, the Chinese ambassador to Mongolia was quoted in the local press this year saying relations between the two countries are at their best in history.

“Mongolia does have a history of hasty implementation of legislation but also a record of amending, suspending or even repealing its implementation over time before coming to a practical implementation. In its present form the mining statute has challenges for not only foreign investors but also local explorers. The present tight coalition government has increased the focus on the presidential elections this year. Accordingly we may have to wait until after June to see a more practical approach to these important issues for investors.”