Ch. Khurelbaatar: The Agreement Better Does Not Have "Strings" Attached to the Budget

Econometrics is a powerful branch within the science of economics, especially important for strategic planning. I wish you train a new generation of Mongolian econometrists?

That’s right. Econometrics offers major tools for important economic research. People make assumptions and guesses. Econometrics provides the proofs for some assumptions to be valid and for some to be wrong. I haven’t done research in the past few years. 
There are many things not done in the past years. The Donors’ meeting didn’t take place in the last few years?
It used to be held twice a year. Last year there was one meeting, and this year the meeting will take place on February 11. 
This year the budget is going to be revised in extraordinary circumstances. Will you be able to make any substantial changes or progress by the planned revision? Ministries set up working groups to study the possibilities to save the budget. Can we realistically cut our budget? Some worry that if major changes are made, for instance cutting investment by more than 10 per cent, the economy which had been heating up not a long ago, may be shocked? What are the features of this year’s budget revision?
As you recall, the 2009 budget was approved before December 1, 2008. The timing was also special then. This was the first budget of the new Parliament. Second, this was the budget developed by the old Government but submitted by the new one. Third, this was the budget which did not reflect the changes and adjustments in the structure of the Government  and its agencies. And fourth, this was the budget developed at the early stage of the crisis. For all of these reasons, the budget is to be revised. The crisis has deepened. The whole world is in a saving mode. Then, the structure of the Government and its agencies is finalized. The new ministers are no longer new as they by now have a clear vision for what to accomplish and how to accomplish. And the Parliament as well has drawn conclusions on the evolving realities over the recent months.

Along with the budget revision, high on the agenda are the draft Investment Agreements on the Two Tolgois. Will you manage to discuss all altogether during the same [irregular] session of the Parliament?

Parliament members haven’t received yet the copy of the draft revised budget. The draft hasn’t been even discussed at the Cabinet session yet. [The interview was taken on February 4, 2009. MMJ]. What do we expect from the budget revision? First, a comprehensive anti-crisis package is to be set in the budget. Second, a marked progress needs to be made to rectify Mongolia’s major macro-economic indicators. Most importantly, work needs to be done to curb budget deficit. Fiscal revenue indicators were set based on revenues collected at the time when the economy was heated. But the revenue assumptions won’t be justified now. Therefore, revenue projections will have to be cut. At the same time, expenditures will be drastically reduced as well. Besides the budget, the session is to discuss the Oyu Tolgoi and Tavan Tolgoi Investment  Agreements. I’m afraid, we won’t have time to discuss them at an irregular session.

The timing of the upcoming Donors’ meeting is quite critical as it’s taking place right before the budget revision. What do we expect from the Donors’ Meeting? Any proposals to be made, what do we have in mind?

A technical meeting basically has two basic goals: first, meet with investors and listen to their opinions and viewpoints about the Mongolian economy and development; second, learn about their country programs and work to coordinate the efforts to ensure consistency of our national development goals and donors’ country assistance strategies and programs. At the upcoming meeting, we shall also discuss the crisis. The ODA [Official Development Assistance] is likely to reduce globally in the coming, say, 2-3 years. These days, all governments are devising their stimulus packages to rescue their economies. They are all trying to inject more into their economies, and at such times, official development assistance would perhaps reduce.

If the IMF resumes its program in Mongolia, we might secure a loan. Will they do so?
It’s important for us to have a program with the IMF. Why is this important? The IMF provides clear-cut recommendations for sound economic policies. Some politicians dislike the IMF recommendations for the politicians plan policymaking for 4, some for 2 years. The IMF provides economic policy advice within the prospects of hundreds years, say for 200-300 years, and are not likely to be confounded by politics. Since 2005 Mongolia hasn’t had any program with the IMF. As soon as we started recording huge revenue flows, the IMF program was deemed unnecessary. The benefit of having a program is to secure loans.

What does the IMF require as the main condition for resuming its program in Mongolia?

Cut fiscal expenditures and tighten the monetary policy. 
Do they state any numbers?
Yes, they do – to limit the money supply within 10%, and advise to strengthen and tighten requirements for commercial banks. They have since long ago been advising to improve banking management. Specifically for budget, the IMF advised to restrain the deficit to no more than 5% of GDP and cut the current budget expenditures by 600-700 billion MNT.

Is it possible to attain those records?

Well, they didn’t tell us to achieve them by tomorrow. They do allow us time for coordination and decision-making – two years. So we have time and room for action. We will work to meet the requirements and attain the desired level of performance.
The World Bank has concluded that in 2009 our economy would experience a serious downturn. What should we do?

We have just two options now – either increase the budget revenues or cut the expenditures. The probability for the revenues to increase is low. This is one of the things that the politicians can not do anything about. We have to conclude the Investment Agreements on Oyu Tolgoi and Tavan Tolgoi. Besides, a project is being discussed to build a large power-station based at Shivee Ovoo  and sell the electricity to China. This project has been now discussed for 2 years. The project will reliably secure a source of power within Mongolia first of all, plus the whole system of training our energy cadre will fundamentally change. And more jobs will be created. 

Another benefit is that we will earn more Yuan. Oyu Tolgoi and Tavantolgoi will generate dollar revenues mainly whereas by exporting energy we will make more Yuan. This will strengthen our MNT. Tugrug strengthening would lead to lower prices, we will become able to buy benzene for just 500 MNT! The prices of our other import items would notably go down. This is fully possible.

Therefore, while discussing the major agreements, we have to work to capture the benefits from increased inflow of currency and expand their multiplier effects. Equally important is to develop metallurgy, but this issue shouldn’t be politicized. In these ways, there are plenty of ways to increase revenues actually.  But’for 2009 the prospects for increasing the revenues are meager. We just need to cut inefficient expenditures. Cutting expenditures is now seen as the most realistic measure.

At the time when gold records more than 900 USD per ounce, can’t we abolish the windfall profits tax?

We can. At the time of setting this tax, I was the State Secretary for the Ministry of Finance.  The proposal the Ministry of Finance had submitted to the Parliament had a completely different notion – we proposed changing the royalty rate reflective of price changes – at times of price increases the royalties would increase and if prices plunge, the rate would slide down, and this was a common international practice. However, in the course of discussions at the Parliament the idea was totally thwarted. A windfall profits tax exists only in Zambia. This was a sort of “innovative idea” [ShBOS, the contraction literally means “A New Product – A Proper Initiative”, was a long-lived value in socialism.MMJ] copied from Zambia.

See, this was an imitation of Zambia, a place to be looked last if at all for innovations! What devastations it brought to Mongolia! Well, it was really hard to conduct negotiations on Oyu Tolgoi. At that time, the negotiations centered around the windfall profits tax. By introducing this tax, unknown in the most countries, we did bid farewell to many investors. Many politicians believed that we would always enjoy the blessings of the time. In negotiating the draft agreement we assumed the copper price to be 4200 USD per ton. But, if you recall, some MPs were saying that copper would stay at 8000 per ton for three years, and the others almost applauded them. But, there are many copper mines on earth. Of those, 44! had been planning re-investment to expand their existing capacities. I had the list of these companies handy and showed them “These companies are re-investing to install more capacity, which will be put into operation soon, and by 2010 the supply of copper would substantially increase and that would drive the prices down” went on my comments and explanations.

Yet the MPs continued attacking us blaming as of we were going to make a detrimental for Mongolia agreement seeking for private gains. And that made the public think as if the Working Group had made huge miscalculations. Now copper price is 3200USD per ton. Maybe by 2011, the price would go up to 4200, which is an average price, calculated based on average of many years. Of course, we would only benefit if the price goes any higher. The Windfall Profits Tax does not only obstruct the ongoing negotiations, but also blocks away all future potential investments. Mongolia is not the only country with mineral resources. Many other countries do have them. Therefore, it is a must that we fully abolish this tax.

For both gold and copper?

For both, yes. Maybe in case of plants like Erdenet, which is 30 years old and fully recovered its initial investments and costs, some taxes could be imposed. A certain percentage may be allowed for mines where the investors recouped their investments and the government earned back its share. Otherwise, if we impose that tax for a mine which isn’t even built, for sure investors would flee away. Therefore, this tax must be done away with for both gold and copper. We should be especially thoughtful about gold. Gold is the key commodity which generates Mongolia’s foreign currency reserves. Recently the Parliament raised the taxable threshold price to 850 USD. We do hope that the businessmen would be able to make adjustments in their operations within this level. We can expect the businesses to start selling gold no any earlier than July, August, September 2009. And that again proves the urgency to abolish this tax for both commodities. Royalties may be increased at the times of higher prices. Investors do not know the nuances and details, so they would study the environment, the investment regime. And when they hear that on top of all taxes and royalties, they have to pay a windfall profits tax, think of how many of them would want to invest?! Therefore, let’s just abolish this tax, and instead institute a globally practiced tax. Then the investors would look at the rate it’s charged and would reconsider their minds. Investors avoid and are cautious about investing in places with additional taxes.

The Investment Agreement draft submitted to the Parliament in 2007 provided for windfall profits tax with the view to have a smelter built. What was the response of the investors then?

It was tough then. Some blather that a bunch of ignorant men sat around a table and wrote the draft agreement. To be frank, we worked with the IMF advisers. Was it possible for us to employ large companies as advisors? Yes, it was. But we didn’t. The investors, those large companies are connected to the major investment banks by this or that channel. After some thoughts, we decided to use the IMF’s consultancy. There were three IMF experts to work with us – very experienced people who had worked on 15 agreements for various countries. We would speak with them over phone and our regular conversation would last on average for 2 hours. We would ask our questions, explain our rationale and would get their comments and advice. Would double check what we hear. The experts could be travelling anywhere – one day in the US, the next day, say, in Seychelles Islands. Still we would email them, call the hotels…

By the way, where did this number come from – 68%? Why not 67, 69, 50 or 90?

I don’t know. The Parliament made up this number.

As Minister D. Zorigt says, now the main goal is to achieve the terms and conditions attained in the 2007 draft agreement. Will it be possible to reach that goal?

I do perfectly understand the situation Minister Zorigt is in now. The realities in 2006-2007 were totally different from today’s. Copper price was high and it was easier for the investors find money. Though we are speaking and negotiating with the investors just across the table, in fact, we are negotiating with the banks behind the investors. The investors do not provide all the needed funds – billions of dollars - just by themselves. It’s wrong to believe that the investors command piles and piles of cash. They get the funds from banks. IPOs are not enough for such megaprojects. IPOs at best could secure 5-10 per cent of the required investment. The rest is always secured by banks. Therefore, although we are negotiating with the Rio Tinto and Ivanhoe Mines, in fact, we are in double negotiations with banks and financial institutions. Today those banks themselves are in difficult situation. Rio Tinto and Ivanhoe share prices plummeted. Cheap stock prices indicate at the gloomy business prospects. Minister D. Zorigt is negotiating under tough circumstances. And I do understand that it’s not easy to advance the negotiations. The goal stated by Minister Zorigt to attain the 2007 draft agreement level under today’s conditions which are much tougher in comparison with the situation we were in half a year ago, is too ambitious, overambitious a goal.

Weren’t the terms and conditions agreed in 2007 draft Investment Agreement “golden terms” for Mongolia?
I heard on TV the journalists referring to it as “Khurelbaatar’s agreement”, that they were saying the 2007 draft was a “golden” agreement. Then I realized people started reading the events realistically. In that draft we made very sound estimations and projections. During the negotiations, first we would discuss the general principles. Then we would scrutinize every single provision, word by word. Behind a provision in the agreement is an issue of several hundred millions of dollars. I recall we received an offer from the Open Society Institute for advice and help. Some called me stupid for I refused to accept an offer of free advice and assistance. I did have a reason to decline the offer. Besides, how would the investors interpret my act if I did accept? They would become cautious about us thinking we were being advised by Mr. Soros. They would have even had a right to refuse to negotiate with us. The draft Minister D. Zorigt would submit to the Parliament, I believe, would be apt with prevalent circumstances. I hope and believe the Parliament would fully support the draft.

The economy badly needs money. For 2009 we need at least 1 billion USD. But this dare need might be attached to the agreement as a condition, as some worry. They fear that the short term needs for cash are being compromised for vision we have to observe in the agreement.

I view that finding money is a different issue, separate from the agreement. If the Government wants to secure cash funds, it should identify its needs and work to accommodate those needs. We just cannot obligate the Government to develop the mine and on top of that, raise money. Money will be costly now. At the same time, it’s not easy to advance the mining project. These two needs should be addressed separately. Similar issues were raised when I was negotiating the agreement in 2007. Back then it was easier to find money. Money was available and cheaper. Now the situation is different. Still, the two issues have to be separated. Oyu Tolgoi project negotiations should proceed ahead. It is a completely different challenge to raise funds through the project. This is an issue not related to the agreement.

Will we succeed in selling Government bonds if issued?

Past autumn, President N. Enkhbayar attended an international conference in Hong Kong. The President held quite constructive meetings there with banks and international financial organizations. Mongolia is able to call up funds.

What if foreign governments purchase our bonds?

Possible. We just need to carefully study the terms. If the conditions are strict, and if Mongolia’s fundamental benefits are likely to be backed up with, we should not agree. If there are no questionable conditions, let them buy our bonds. It’s always risky to borrow money if the goals are not definite. After all we will have to recover the loans with our taxpayers money.

What is the choice of the first order – bilateral loans or loans from multilateral organizations such as the IMF?
IMF loan is usually small. It ranges around 80 million USD, and combined with the World Bank and ADB loans, it would make up to 120 million.

Proportionate to the size of our GDP?

Mongolia is a member of the International Monetary Fund. The loan we request from the IMF is correspondent with our membership fee. The IMF provides loans within a range not to burden our budget. I support an idea for Mongolia to issue bonds to trade at international bond markets. How can we sustain if we always tend to rely on donors’ money?
A World Bank study has shown that because the Mongolian Parliament has too much power, our budget is way too wasteful and lavish. The Parliament generously increases the budget prepared and submitted by the Ministry of Finance to the extent it pleases. Has this been the main cause of the budget deficit?

Such a careless generosity has practically been instilled during the years of high copper price. Finance Minister submits the budget. The Parliament members would loudly shout to have the expenditures raised. But during the 2009 budget discussion last fall, the Parliament did cut the expenditures. This was the record high expenditure cut at the Parliament. Yet it undercut the budget. True, nobody could foretell that the situation could worsen to this extent. I was asked about when the crisis would be over. I responded that within some 6 months general tendencies will be marked. In Davos no definite decisions were made. Business and political leaders simply spoke about the crisis, no any decision was made. The whole world is panicking today.

The economists and researchers all agree in citing consumption as almost the only stimulant?

Consumption and investment are two means to support an economy. Therefore, most of the countries are taking measures to boost these two stimulants. For Mongolia we should boost consumption as well, but what types of consumption is worth considering. We should limit our spending for items which benefit foreign economies. We should spend on domestically produced goods and services. Another question is whether to be an optimist or a pessimist at the times of a crisis, to which I would simply reply to look into our past mistakes and try not to repeat them.

1998-2000 were basically crisis years. Asian financial crisis effects were still traceable. We were very optimistic in 1999 and the decisions we made were optimistic. We made very positive and forward-looking assumptions. But the effects were modest. Therefore, we should project the worst economic scenarios and be ready for worse with our plans and policies. Of course it’s only good for Mongolia if the pessimistic projections do not fulfill. If we manage to make more money, it’s always easy to spend them. The most difficult job is to look out for things which do not exist.

What would you say about the speed and productivity of the Government? It’s been slow. What did it have to do? Shouldn’t it have sensed the realities?

Look at China, for instance. They declared their anti-crisis policy in November. Four trillion Yuan is 565 billion USD. It planned concrete measures and has started implementing them. Japan is no different. The plan of action was ready in October. Mongolia is working on the plan. Russia adopted its plan in December. It’s a program with close to 100 actions and provisions. US was busy with the election, but still President Obama has devised a plan for almost a trillion USD worth actions.

During the Asian financial crisis, some countries were disturbed along the Asia-Pacific rim, by the end of 1998 most of the affected countries had stabilized their currencies. Their trading partners in the other parts of the world were doing well, so it was easier for these countries to bounce back. But the world is totally different today – almost every single country is suffering. As a researcher, what is your guess for when the crisis would end for the globe where every country is in recession and crisis?

No man on earth would answer this question. But just by my common sense, by gut feeling, I’d say, in three years. If we look at the full recovery periods from major crises they mostly took on average 3 years. No fewer than three years were needed to restore the economy back to normalcy. The cause of the Asian crisis is simple – investing short-term loans into long-term projects, which would for sure incur losses due to a mismatch of the loan maturity and investment recoups, just like what’s happening now in Island. The ongoing crisis is said to have been rooted in mortgages. In fact it started much earlier. After September 11, 2001, people started controlling their expenditures. Since then the Fed has been progressively reducing its interest rate. Since the US is taking such a measure, the other countries would follow the suit. And that basically made interest rates zero. And of course, zero-rate loans would mushroom in the economy, effects of which is this crisis.

Will the slowness, insensitivity of our Government prolong the hard times?

If we assume that the crisis would persist for three years, any belated measure would definitely extent the misery and pains of the crisis by months.

Isn’t there any mechanism in place for MPs to exert pressure on the government to speed up? Was it compellingly necessary for the Parliament to take a break?
What would the MPs do when the Government doesn’t submit any issues for Parliament’s consideration? What’s what we heard the Speaker saying – not a single issue was ready for discussion and approval?!

We took a break because we had nothing to discuss. Over the past fall session, my Standing Committee was in session for a record high number of times.
Can’t just get it – no issues to discuss at the time of the harshest crisis?! The Executive branch and the Mongolbank introduce issues for the Parliament session. They introduced nothing. Hopefully, they are working on something now.

Have the 300 million USD advance payment, discussed during the 2007 “golden” agreement negotiations, turned into a daydream?

At the time of discussing this advance payment, I was never fully convinced that this was a right idea. The negotiation guidelines had this requirement. Well, because these were good times, it was agreed. But now, the agreement and the fiscal needs should be seen as two separate issues, I view. The Investment Agreement should go its way, and it’s another business to mobilize funds for the budget. I wish the Government does its work to the extent it can.

Do you agree with some of the Mongolians hampering the progress of the negotiations by claiming that any disputes in the future, if happen to rise, be resolved by Mongolian arbitration rather than by international arbitration?

Frankly speaking, Mongolian laws are only teenagers. The draft Investment Agreement provided for a London court to resolve the disputes. The UK has a 300 years old legal system. Therefore, we should strive to create a legal environment which is consistent with the global standards. We really do not need to be scared of, or cautious about these internationally pursued and adhered laws. There are business laws which can be enforced in Mongolia just the way they are. And Mongolia would only benefit from this. Everybody knows the state of affairs in Mongolia’s legal and judiciary organizations. It wouldn’t be a deal, say, for an investment worth some 5 or 10 million USD. I shall state it again – the investors will have to resort on the banks who would give them the money needed. Those banks and financial institutions represent interests and benefits of millions of shareholders. These banks set very tough conditions to lend money. The issue is not in Rio Tinto or Ivanhoe acting stubbornly and not understanding Mongolia’s circumstances. The level of responsibility, accountability and requirements heightens as the amount of the funds to be borrowed from the bank increases. The investors are pressured by the banks to qualify for the tight requirements these banks pose.

Is there a possibility to introduce the interests of a third country through the deposits of strategic importance? For instance, 9 Members of the Parliament have generated an idea – to take a loan from Japan. At the Washington meeting last fall Japan declared internationally that it could potentially lend money. So the nine members urged the Government to take faster actions in this regard.

Yes. However, countries will consider just one fact about Mongolia. When granting a loan, a financing, they would listen to the IMF – does it say ”yes” or ”no”. If the IMF says Mongolia can be granted a loan as her major indicators are doing well, the issue would be positively resolved.

How would you define the concept “a third economic neighbor”?

I do not want to have partners on loans. Our partners, I wish, are investors. The fact of Rio Tinto and Ivanhoe Mines investing in Oyu Tolgoi is a strong protection, a strong security by itself. We neighbor with Russia and China and should be speaking with them at the same or equal levels. The more investors come from other than these two countries, the better for us.

Rio Tinto seems to be in a difficult situation. News columns carry news that Rio Tinto sold its debts to Chinalco, a state owned company. Should we be cautious about this deal?
Yes we should. Because Rio Tinto has a debt of 39 billion USD. It bought Alcan. They have to make the payment either this or next year, some 10 billion USD. Therefore, it should sell its debts to someone to look out for solutions.

Did the 2007 draft agreement address the infrastructure issues in packages?

All issues were packaged – energy, roads. This was a draft with over 200 provisions. Water, land – all were treated comprehensively. The investors agreed when we set in the agreement provisions related to training of engineering and technical personnel for free, because they would need these personnel to operate the mine.
Did the draft have a water tax provision?

Yes. All environmental matters were treated under the investment agreement. We agreed that the investor would pay the taxes, fees and payments imposed at the time of concluding the agreement. Back in 2007 we were criticized that we were not transparent. But we have to distinguish between the negotiations and the agreement. An agreement, a physical object should be discussed openly before it’s concluded. But a negotiation is a process, it’s a bilateral talk held between and among few people. Negotiations never succeed if whatever is talked about during the negations appear in the next day’s newspaper columns. Once the negotiations are over and once the draft agreement is submitted to the Parliament, then we can publicly debate it. I did negotiate the Millennium Challenge Account Agreement and the Agreement to invalidate the grand debt. I can’t recall any instance when every level of the negotiations was publicized. There is no need to do so.

I remember you said back in 2007 that the time was the best test.
Exactly, time is a test. Some went striking outside our ministry building. At the very moment of submitting the draft Agreement to the Parliament, neither the politicians nor the public supported it. Everybody was suspicious - “this guy must have gotten something from Ivanhoe“. I was telling the Ivanhoe people then “You bought us pizza once and you bought us bottled water once“. Actually, there are instances when the negotiating parties could have informal meetings, but the Ivanhoe people were cautious to even have lunch with us.

I hear some people arguing against concluding the agreement now when the copper is low. Look, the agreement is not concluded at best times, it is not concluded in the worst times either. Then when? Arguing that it should not be concluded because of bad external environments is fundamentally wrong. We have to pen the agreement anyway. The most important virtue of the Agreement is the benefits it accords to Mongolia. There are enough chances that a good agreement can be concluded even when the external environment is wicked. And opposite, even if the environment is delightful, the agreement may turn out to be a shame. Therefore, without being governed by any external factors, each provision has to be worked out neatly.

Do you advise the Working Group now negotiating the agreement?

No. From the very beginning I clearly stated my position – my meddling into the process now won’t make any good, so I do not advise.

Civic movement representatives argue that laws of Mongolia should not be changed to accommodate the agreement. What’s your view on this issue?

If necessary, laws can be changed. If Mongolia’s interests and benefits, if our future and development are at stake, we should not rigidly stick to any tough conditions and positions. If necessary, the laws can be changed under any circumstances. Because at stake are issues of pivotal importance for Mongolia’s benefits, for her wellbeing, for the wellbeing of the entire Mongolian people.

An irregular session of the Parliament will be convened soon to revise the budget. As the Head of the Budget Standing Committee of the Parliament of Mongolia, as the key economic decision maker for the country, what specific message would you like to convey to the Mongolian people at the time of economic hardship?
The year 2009 is going to be a tough year for us. Therefore, let’s tirelessly work for our own good. When we buy items for consumption, let’s buy Mongolian goods, the goods produced with Mongolian raw materials.

In fact, in the hard times we are now enduring, the most efficient, the most productive ones prevail. The companies with best management withstand the tests of the time. Of course I do not expect Mongolians to act like Koreans did during the 1998 crisis, taking all their jewelry [except wedding rings] to their Central bank to help the country to cope with shortage of foreign exchange. What I want us, the Mongolians, do is to support our national industries and urge to join the “Buy Mongolia” drive.