Why the bailout?
The Mongolia government has jointly announced with the IMF that it will implement the politically difficult – but inevitable – rescue package, and avoid becoming a delinquent international debtor. Let’s be clear – this is an aid package, at very low interest rates. It is also coming from long-term friends of Mongolia – the IMF/World Bank, ADB and with support from Japan and other bilateral partners. The Chinese government will reportedly extend the term of the US$2.2B Yuan swap facility (due in August) by three years.
This multi-party package will only come into being because the Mongolian government has agreed to a structural reform of government finances and processes. Signing up to the US$440m IMF package has opened the door to a larger US$5B plus support and debt restructuring package.
The IMF $440m package by itself will make little up-front difference to Mongolia’s plight, being drawn down over 3 years.
This larger package will also make easier the refinancing of existing government debts. Just recently DBM’s bonds of 580 million USD (issued at 5.75% for 5 years) were exchanged for the new 600 million USD Khuraldai government bond (issued at 8.75% for 7 years). The new Khuraldai bond is 52% more expensive than the DBM bond raised 5 years ago. However it is a 2.1% lower interest rate than the last 500 million USD bond raised just 12 months ago – representing a 20% reduction in borrowing costs. This reflects a first benefit from the proposed IMF deal.
However the lenders are also saying, “if we are to help you then you must also help yourself”. The restructuring of government revenues and expenditures is required “with or without bond repayment” and “with or without IMF bailout”.
By the end of 2016, the budget deficit reached 15% оf GDP and public debt reached 78% of GDP (http://unuudur.mn/article/94871). Effectively government expenditures have grown at a far faster rate than its revenues. At the peak of commodity prices the government were running large deficits and borrowing internationally to fund this. With the downturn in commodity prices the debt situation has become chronic.
Fiscal restructuring has to take place, with or without IMF bailout, but with IMF bailout at least the country will receive fiscal support from donor community. So the main culprit is not just a temporary fall in mining products prices, its the underlying fiscal structure and policies which created the unsustainable budget deficit and inefficiency.
Some economists claim that the bailout package is either unnecessary or it’s terms are unfair – or both.
But we ask you – what do individuals, families and companies do when they fall on tough times? They restructure to survive. If they don’t this quickly their relatives, shareholders and trading partners quickly cut financial support. They restructure or fail – simple as that. For companies, you restructure or go bankrupt.
Officially governments do not become bankrupt – look at Zimbabwe for instance. However, where lending countries and major lending institutions see an economy and government finances being mismanaged or in very poor condition, they quickly reduce their support, and demand action before support is re-instated.
There are also notable examples of countries like Venezuela where political leaders prolong their own country’s agony. They pretend the crisis does not exist, or waste time placing the blame on other parties. They often continue to print money to pay their own bills and make debt repayments. They do this for personal survival (or benefit) – but economic recovery does not occur and the catastrophe moves closer because the underlying economic structure itself is erroneous.
Government leaders may take actions within their own country that defy commercial logic. In recent years, despite being in economic crisis, Mongolia failed to support implement a number of large investment projects which could deliver billions of US dollars in FDI and tax revenue. Projects like the Tavantolgoi coal deal, Power plant No 5 and Gobi power plant could bring in at least 5 billion of dollars in FDI. However, due to domestic politics it so far hasn’t happened. Unfortunately, No minister in Mongolia resigns when he or she pursues wrong policies and can’t work with investors (ie get projects to the starting line).
However, when governments borrow from international markets to fund domestic projects they ironically expose themselves to the reality of being a “commercial borrower” – where government must repay its debt on time or face significant consequences.
We know from limited experience that when your economy is strong your exchange rate is strong. This occurred during the OT stage one construction and the peak of the commodities boom when coal and iron ore prices were very high.
But now we, Mongolians also know from much longer experience that when your economy is weak, your exchange rate diminishes and interest rates climb to high levels. And critically the cost of repaying your international debt increases significantly in local currency terms. When government revenues have fallen and government costs are not reduced at the same rate, then a bad problem is made worse.
All of these factors are in play in Mongolia – and the only realistic option is to accept the IMF remedy. While it is bitter to swallow, it is better to face reality sooner rather than later. Without the remedy a declining future and financial disaster comes much closer. A mega-commodities boom is not around the corner – and is not our savior.
Let us be clear again – the current level of Mongolian government debt is not sustainable and Mongolia has significant international debts due for payment soon. Refinancing, on good terms, when you have already high debt levels and a weak economy is extremely difficult.
The current success of Khuraldai bonds was only possible because investors thought that the country is serious in its intent to rebuild its own troubled finances with the help of IMF.
The INS supports the IMF bail-out package and the co-commitment measures being put into place by the government. INS realises there will be hardships, but INS also wants a better future for Mongolia, and the bailout package is a first step towards this future.
However, INS states the long-term solution is not the bail-out package per se. We need our government to put in place “economic stimulation policies and programs” that ultimately provide better government services, higher incomes and more jobs for all Mongolians. Restructuring the fiscal system to make it sustainable is a precursor to recovery.
Support ourselves through a strong economy
Restructuring and repaying old debts is not enough. Cutting government expenditures and raising more tax is not enough. It is critical that Mongolia’s government deliver a strong engine room – that is a “strong and growing economy” to provide the things that other country’s citizens take for granted. Government needs to deliver the economic growth, solve escalating health issues and take real steps to actually improve the business climate.
We are all sick from pollution and anti-sanitary conditions. We need our government to deliver healthy cities and towns for our citizens, young and old, to live in. Health wise, and politically, this is not negotiable. The IMF bail-out package is not going to deliver clean cities..
We also need to remember that for every significant social problem (like pollution) not fixed – there is an ongoing and growing public cost. To government it is growing health budgets, for the business community it is lower productivity and absences, and for Mongolians specifically it is chronic illness and reduced life expectancy.
We absolutely need strong businesses, both domestic and international, that make profits, pay Mongolian taxes and provide well paid jobs. The current government has stated that the state should not play a role in business going forward. However, the jury is out here – where we see SOE’s reverting back to large panels of ministry representatives on their boards.
Both sides of parliament recognise the failure of our state-owned and state-run enterprises. They clearly do not deliver efficient business organisations or outcomes. They borrow from government, make very small profits and pay little tax. They also have higher levels of employment than would be the case in privately run companies.
Our government must solve (for themselves) the riddle of how to attract the next wave of foreign investment and international finance. Last three years have witnessed falling amount of investment of all kinds, from 6.57 trillion MNT in 2013 to 4.754 trillion in 2015 (NSO), which includes all kinds of investment. It is not just foreign investment that’s falling – public and private Mongolian domestic investment is also falling.
The Mongolian banks – standing alone – do not have the capacity to service the needs of local businesses. Attracting investors (and finance) to Mongolia is critical for Mongolia’s economy. Lowering the cost of borrowing capital for businesses – to be profitable – is critical. Both are essential if we are going to invest in new and efficient power and heating stations and smarter living technologies, to solve Ulaanbaatar’s pollution problem. Again, here the long term commitment to restructure and improve public finance is crucial.
The government urgently needs to accelerate the next stage of economic recovery. We need to harness the business sector and excite international financiers, promoters and investors about the prospects and returns from establishing business in Mongolia. This cannot be done on a basis of IMF bailout alone. Real and credible actions are needed to kick start the key projects.
Mongolia’s natural endowments are minerals and agriculture. Mongolians have a rich culture and the world shares a curiosity in Mongolia’s history. Mongolians in general are not isolationists. However, Mongolia does not have a large population so we must be smart in how we build external markets to attract and underpin new business ventures. We need to be even smarter in how we attract and retain our future business partners and those who will fund future grand enterprises.
Initiating large-projects (whether in mining, energy, infrastructure or agriculture) is the quickest way to stimulate economic growth, but this does not always have a broad impact on incomes or employment. Mongolian officials have unfortunately struggled in building good relationships with in-country investors and building confidence with offshore investors. The Prime Minister has stated that addressing this is a key focus for this government.
Mongolia needs to build a strong and credible case for “why business should focus on investing in Mongolia” – as opposed to other countries with similar opportunities.
The much-needed private sector investment will come when the correct conditions are in place. If these conditions are not attractive – compared to our competitors – the level of incoming investment will not be large.
This must be the next most critical task rapidly advanced by the government. It is not easy work, but critical to get right