Commentary by Tamara Henderson
With its exceptional fiscal
and current-account deficits as well as a narrow basis for
growth, Mongolia could benefit from the hard-learned lessons of
its Asian neighbors. There are two steps that might reap quick
rewards from investors. One is a mandated fiscal deficit limit.
The other is the country’s diversification into the petroleum
refining and petrochemicals sector.
Mongolia has a current account deficit of 31 percent of GDP,
roughly half of which is mining-related capital imports; strong
domestic demand and slower exports and FDI inflows account for
the remainder of the shortfall. Inflation was 8.3 percent in
July, which, albeit high, was a sharp improvement from 14
percent in December. Even with mineral revenue at 7 percent of
GDP, the government’s structural deficit was 6 percent of GDP in
2012, according to IMF estimates.
Resource-rich Mongolia has a small, educated population of
approximately 3 million. Growth was 12.3 percent in 2012 and
depended heavily on investment, which accounted for 64.5 percent
of GDP. Mongolia sends 90 percent of its exports to China and
imports 95 percent of its petroleum products. These conditions
make growth highly vulnerable to adverse swings in risk
appetite, liquidity and interest rates.
As Indians know well, twin deficits can be a red flag for
investors, who tend to flee during episodes of risk aversion.
India’s external government debt amounts to 4.4 percent of GDP,
and foreigners hold only a small share of public rupee-debt.
Yet, investor frustration with fiscal laxity, persistently high
inflation and entrenched corruption sparked a vicious spiral of
slower investment and growth. By comparison, Mongolia’s current-
account deficit, excluding mining-related imports, is 16.7
percent of GDP — three times larger than India’s overall
deficit. This, along with an external public debt of 26.1
percent in 2011, makes the country vulnerable to capital flight.
Like Singapore, Mongolia has a small population, strong
human capital and an economy highly sensitive to shifts in
external demand. Singapore has diversified its economy beyond
its natural advantage in transport and built large buffers in
contingency. Singapore’s flexible labor and capital markets can
better ride out external shocks, and the country’s central bank
and fiscal authority have strong reputations for transparency
and prudent policy.
Indonesia and the Philippines, like Mongolia, have untapped
mineral wealth and are working to address infrastructure
bottlenecks to increase growth potential and to reduce poverty.
Both countries have recently-established track records for
fiscal discipline and were rewarded with investment-grade credit
ratings. There is a legal cap on the fiscal deficit in
Still, positive investor sentiment evaporated after
Indonesia rolled out unpopular macro-prudential measures that
many perceived as capital controls. Indonesia’s recent current-
account deficit, developed partly due to capital imports for
critical infrastructure improvements, also hurt investor
sentiment. Leadership changes and the anticipation of elections
next year have heightened uncertainty.
Frontier investors understand that the development journey
is long. They also have limited patience for governance errors.
Conservative growth and revenue projections in budget plans
would not only be an important signal to investors but also
allow scope for positive budget surprises. Diversification of
the economic base would enable Mongolia to better capitalize on
China’s rebalancing and broaden trade links.
Tamara Henderson is an economist for Bloomberg based in
Singapore. To contact her: +65-6212-1140 or