Mongolia to channel natural resource riches into new sovereign wealth fund

Mongolia to channel natural resource riches into new sovereign wealth fund
Mongolia's elders hope to see the SWF safeguarding national riches earnt today for generations to come (pictured is a portrait of Chinggis Khan painted on a Mongolian hillside). / Vidor at English Wikipedia, cc
By Michael Kohn in Ulaanbaatar November 26, 2022

Deep below Mongolia’s vast territory lie billions of dollars worth of coal, copper, gold and other minerals. How to ensure these natural riches are spent wisely and saved for the future has long been debated in the country but the government sees a new sovereign wealth fund (SWF) as the answer.

Mongolia is no stranger to sovereign funds, having set up several over the past two decades. But this fund would be the first to manage domestic assets wholly or in part. And state-owned mining enterprise Erdenes Mongol LLC is seen as best positioned to handle the job.

Transforming the structure of Erdenes Mongol from a state-owned enterprise (SOE) into a sovereign fund will help Mongolia better direct its mining resources, says Batnairamdal Otgonshar, the country’s Vice Minister for Mining and Heavy Industry.

Revenues from the companies under its umbrella can be moved into offshore investment accounts where they can generate more cash. More critically, he adds, the funds will be beyond the grasp of politicians who have a history of raiding government coffers ahead of elections to pay for populist projects.

Batnairamdal Otgonshar (Credit: Instagram account).

“We have done cash handouts in the past, that is the wrong thing to do, especially politically driven cash handouts,” says Batnairamdal. “Basically it boosts inflation and it doesn’t create any value. What we should be doing is investing that money into large infrastructure projects.”

The government’s vision is to transform Erdenes Mongol into a local version of Singapore’s Temasek Holdings or Kazakhstan’s Samruk-Kazyna. It is hoped that, in doing so, cash will be raised that can be converted into new infrastructure, which in turn wil help boost job numbers.

“We are at the point where we need a lot of heavy investment,” adds Batnairamdal. “Obviously the government isn’t going to be able to commit to 100% of those investments, no one does that, but with mega projects you would require a 30% equity commitment.”

The vice minister observes that a 30% equity commitment would need to be shared by partners including the government and others. The government would pay for its commitments through Erdenes Mongol.

Pouring mining profits back into infrastructure will also allow the government to boost the production of value-added products. Investments could include a copper smelter, a coal washing plant and other factories to increase the value of Mongolia’s underground wealth.

Reinvesting revenue also shows investors that they have a committed partner in Ulaanbaatar, says Batnairamdal, adding: “Especially when it comes to large mega projects, I think investors require government commitment”.

Companies under the Erdenes Mongol umbrella produce and export copper, coal, uranium and other minerals. 

The portfolio includes the government’s stake in Oyu Tolgoi, the giant copper and gold mine in the Gobi Desert that is being expanded by Anglo-Australian mining giant Rio Tinto. Erdenes Tavan Tolgoi, one of the world’s largest coking coal deposits, is another holding.

Some of Erdenes Mongol’s companies are generating considerable revenue, others are still in development.

The Norwegian global pension fund could be a good model for saving revenue from these businesses, notes Batnairamdal. “You just park the money outside in stocks, bonds, real estate, or a sovereign development fund, then take income generated from natural gas or mining and then invest back into the country with large infrastructure projects,” he says.

Edward Faber, Asian Development Bank’s (ADB’s) country economist for Mongolia, sees SWFs as effective tools for fiscal policy management in resource-abundant countries. Wealth funds can act “as a short- and medium-term stabilisation mechanism as well as a long-term savings mechanism,” considers Faber.

Moving forward there will be the need to deliver a balancing act. Mongolia is highly indebted and there is constant pressure on SOEs to produce revenue so the government can balance paying down the debt and funding social welfare programs. 

Another challenge for the government will be keeping Erdenes Mongol out of anyone’s political orbit, while getting its finances in order and made transparent.

"They really want to model Erdenes Mongol after Singapore's Temasek,” says Munkhdul Badral Bontoi, head of market research firm Cover Mongolia. “A good model, but I'm sure they won't be able to separate the management from the politics."

Erdenes Mongol also needs to show it can pay dividends. The company has not yet paid dividends to the state, although some of its subsidiaries have turned a profit. One problem is misdirected expenditures of its subsidiaries.

A 2021 World Bank report showed that 62% of Erdenes Tavan Tolgoi’s costs were attributable to the production of coal, while the remaining 38% was spent on marketing, benefits, travel and entertainment.

Finances at the company and its subsidiaries have been opaque, the report added, and “should be subject to independent external audits that are published on the company’s website, as well as a much higher degree of transparency of financial information and operations.”

If the government succeeds in transforming Erdenes Mongol into a fund it will follow the country’s Fiscal Stability Fund, which has amassed $46.7mn in assets. This fund’s revenues accumulate from windfalls when commodity prices are high and are used to stabilise the economy when those same commodity prices plummet.

It has not been smooth sailing for the fund. The World Bank report described how volatility in government spending has been “increasingly inefficient” during boom times, especially on politically motivated local infrastructure projects. Public debt has also ratcheted up with each decline in fiscal revenues, the World Bank said.

“The inability in [delivering] smooth fiscal expenditures, as Chile, another copper-dependent country, has done, contributed to Mongolia’s fiscal crisis and poor public investment decisions,” the report stated.

The country’s largest SWF, Future Heritage Fund, holds $269mn in assets and is one of the world’s top 100 funds by assets, according to the Sovereign Wealth Fund Institute. The idea behind the fund is to save mineral wealth for future generations that won’t be able to profit from non-renewable resources. But some say it needs better management.

“Royalties just accumulate there but the funds are actively managed. There should be asset management,” said Tumenstogt Tsevegmid, a former head of Erdenes Mongol.

Erdenes Mongol also needs active management but it's not yet clear who will lead that charge. The company has gone through a string of chief executives recently, including one who was arrested in October 2021 on bribery charges. The executive pleaded guilty. Elections and changes in government have also resulted in senior management turnover.

The company’s current interim CEO, O. Khulan, has been running the company for over a year while the government searches for a permanent head of the enterprise. Erdenes Mongol did not respond to a request for comment on its hiring effort.

In September the government declared that the job was open to anyone, regardless of nationality, as long as they come with experience in managing a wealth fund.

“Domestic and foreign citizens with international experience will be considered,” said Cabinet chief Amarbayasgalan Dashzegve. “Especially those who have worked in the field of wealth funds in countries such as Singapore and Norway.”

Hiring a chief executive with SWF experience is a good first step. Hiring a good auditor will also be essential. Retaining any new executive for the long haul, and allowing for a major restructuring of Erdenes Mongol, will amount to a considerable mountain to climb for Mongolia’s young political elite – but one that could yield dividends for decades to come.