Washington, DC – November [19], 2021: The Executive Board of the International Monetary Fund (IMF) concluded the Article IV consultation with Mongolia.

The Mongolian economy is rebounding from its deepest recession in a decade, despite a lingering pandemic. The recovery is largely export-led, supported by the global recovery and base effects. Notwithstanding continued economic support and a successful vaccination program, domestic activity remains weak due to the pandemic. Many workers, especially female workers, are leaving the workforce, perhaps permanently. Inflation has risen recently but mainly due to transitory factors affecting import prices. Policies were appropriately supportive during the pandemic. However, large, untargeted and continuing fiscal, quasi-fiscal and financial forbearance measures due to Parliamentary measures have heightened macrofinancial vulnerabilities: public debt has sharply increased, bank balance sheets have further weakened, and the Bank of Mongolia’s (BOM) operational independence has been compromised.

The government and BOM have appropriately managed Mongolia’s external vulnerabilities. Taking advantage of supportive global financial conditions, Eurobonds coming due in 2022−23 were successfully rolled over on better terms. The BOM has opportunistically built its gross international reserves, aided by import compression and disruptions, a favorable terms of trade and the 2021 IMF SDR allocation of US$98.3 million (95.8 percent of quota). Even so, international reserves are assessed to be inadequate given large external liabilities.

The economic outlook remains strong, though uncertain. Real GDP is projected to grow by 4.5 percent in 2021, after contracting by 4.6 percent in 2020. In 2022-23, Mongolia remains poised for an export‑led boom, with growth expected to accelerate to 6½–7 percent if export portals fully reopen and the Oyu Tolgoi copper mine is completed on schedule. As the pandemic is largely controlled, domestic activity is expected to gradually normalize. Medium term growth is expected to moderate to 5 percent, but output levels are likely to remain below pre-pandemic trends due to permanent losses in activity. Inflation is expected to return to the BOM’s targeted range. Despite an export price boom, the 2020 current account improvements are likely to be temporary once recovery takes hold and imports pick up. This reflects Mongolia’s lack of export diversification, heavy import dependence and high external debt.

Risks to the outlook are on the downside risks. A worsening of the pandemic, extended border closures, and tighter global financing conditions pose significant risks, given Mongolia’s thin net international reserves and high external debt. Financial sector weaknesses, exacerbated by the pandemic, increase Mongolia’s exposure to external shocks by forcing the public and private sectors to borrow externally. A major deterioration in asset quality could impact bank capital, and delay the recovery. Finally, procyclical policies could undermine macrofinancial stability and debt sustainability, reducing the policy space to address other major risks, undermining Mongolia’s recovery. 

Executive Board Assessment

Executive Directors commended the authorities on a successful vaccination campaign and welcomed the export-led recovery underway. Notwithstanding the strong economic outlook, Directors noted that significant downside risks remain given uncertainties associated with the pandemic, Mongolia’s limited buffers and high external public debt. In that context, they stressed the importance of managing the export boom prudently to secure the recovery while achieving the country’s long-term development goals.

Directors agreed that in the near term, policies may need to remain supportive, given the lingering pandemic and weak recovery in domestic activity. Calling for an ambitious fiscal consolidation strategy, Directors emphasized the importance of bold structural fiscal reforms to address untenable debt dynamics. To this end, they underscored the importance of better targeted and more effective social assistance programs, ambitious pension reforms, improved public investment management, and tax administration. Commendable plans for e-governance and state enterprise reform should be fleshed out and implemented. Directors also emphasized that the integrity of the Future Heritage Fund should be preserved to maintain investor confidence.

Directors stressed the need to enhance the Bank of Mongolia’s (BOM) operational independence to ensure monetary and external stability. Continued vigilance is needed to ensure that inflation does not become persistent. Directors emphasized that quasi-fiscal operations should be moved to the budget and phased out, and the Parliament should resist making decisions on monetary and financial operations. Greater exchange rate flexibility could serve as a shock absorber. The BOM should continue building its external buffers and drawdown non concessional external liabilities.

Noting with concern the possibility of potential vulnerabilities in the banking sector, Directors called for greater supervisory focus on strengthening banks and contingency planning. In that context, they stressed the importance of a well-sequenced approach to bank reforms to minimize the risk of systemic instability. Phasing out regulatory forbearance by end-2021 and promptly undertaking a fresh and independent asset quality review for potentially capital deficient banks would be imperative for transparency and a proper assessment of bank balance sheets. Emphasizing the need for putting in place the necessary pre conditions for successful IPOs and contingency plans, they called for delaying the deadline for the IPOs.

Directors welcomed the authorities’ long-term development strategy focused on sustainable, inclusive, and green growth. To improve the business climate, they urged the authorities to decisively address the long standing concerns about corruption, governance, and AML/CFT to strengthen the investment climate and promote diversification. Revamping the insolvency framework and judiciary reforms should be prioritized to address impaired balance sheets. Directors stressed the importance of the publication of the full audit report on COVID related expenditures, including the missing information on beneficial owners.