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Mongolia
Budget Note Series
Highlights of the 2013 Budget
and the Fiscal Outlook
December 2012
This Budget Note was prepared by a team from the World Bank’s Poverty Reduction and Economic
Management (PREM) Sector Unit in the East Asia and Pacific Region Vice-Presidency, consisting of
Taehyun Lee (Team Leader, Senior Country Economist) and Altantsetseg Shiilegmaa (Economist) under
the guidance of Chorching Goh. Copies can be downloaded from http://www.worldbank.org.mn. For
further information, comments and questions, please contact Tina Puntsag ([email protected]).
- Executive Summary –
The 2013 budget approved by the Parliament on November 15 has an important implication as the first
annual fiscal plan prepared under the fully effective Fiscal Stability Law (FSL). The budget proclaims
that the Government will be committed to the FSL by setting the structural fiscal deficit at 2 percent.
While this is a progress toward a more sound fiscal policy, the budget also has significant potential risks
of undermining the goal of the FSL with optimistic revenue projections and expansionary spending plans.
Total revenue is projected to increase by 28.9 percent from the 2012 budget, reaching MNT 7,258
billion. However, the rate of increase in total revenue is likely to reach 40 percent compared to
the 2012 revenue outturn. The revenue projections are potentially over-estimated, given the
revenue shortfalls in 2012 and the inclusion of controversial extra revenue (MNT 445 billion)
expected from re-negotiating the 2009 OT (Oyu Tolgoi mine) investment agreement. Potential
revenue shortfall may reach up to 6 percent of GDP.
Total expenditure and net lending is planned to rise by 17.9 percent from the 2012 budget,
reaching MNT 7,444.6 billion. Much of the increase relates to a sharp increase in capital
expenditure of 44.7 percent. Despite the large increase in capital expenditure, a reduction in
capital repairs adds to concerns about maintaining the quality of the new and existing capital
investments. The spending plan of the current budget is yet to include two new spending elements
that could have significant adverse impact on the fiscal outlook: (i) Price Stabilization Program
(MNT 718 billion) and (ii) the use of proceeds from the sovereign bond issue of USD 1.5 billion.
The structural balance is projected to reach 2 percent of GDP, the maximum level set by the FSL.
This is clearly a progress to be noted. However, the fiscal target is likely to be hard to achieve,
given the potential revenue shortages and the two new spending components that will eventually
have to be added to the budget. Exact fiscal impact from the additional spending components
remains uncertain at this stage. However, we expect that the fiscal deficit may reach over 6
percent and the magnitude could be larger depending on how the extra spending plans unfold.
The fiscal imbalance would be much higher if off-budget financing operations were included in the fiscal
outlook of the budget. The fiscal burden from off-budget financing through the Development Bank of
Mongolia (DBM) announced in 2012 is estimated to be over 4 percent of GDP in 2013. Large scale off-
budget financing operations will significantly undermine the effectiveness of prudential rules of the FSL
and likely add to the overheating pressures from the on-budget fiscal activities.
The recent involvement of the BoM in the Price Stabilization Program and the ambiguity on the use of
sovereign bond proceeds are adding to concerns on growing tendency to bypass the FSL. Participation of
the BoM in the Government’s price stabilization measures through providing a subsidized financing is
beyond the traditional role of monetary authorities. Clear plan for the exit of the central bank needs to be
drawn up to disconnect the possibility of it turning into another off-budget financing vehicle. While it is a
sign of growing interest from global financial markets in Mongolian economy, the new bond issue could
become a significant fiscal risk without prudent plans to use the proceeds. It must be noted that the recent
bond issue cannot be an off-budget financing channel and that the receipt and the use of the proceeds need
to be properly recorded in the budget. The Government also needs to take adequate time and extra caution
to select and appraise projects to be financed by the proceeds, considering the financial cost of the
external borrowing and economy’s capacity constraint.
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I. Context
The 2013 budget was approved by the Parliament of Mongolia on November 15 amidst growing
concerns about an overly expansionary fiscal policy. The recent approval of the budget has an
important implication as it is the first fiscal plan to be prepared under the monumental Fiscal Stability
Law (FSL) that will guide fiscal policy from January 2013. In the wake of continuing external and
internal imbalances of the economy, there has been an increasing concern on off-budget financing
operations bypassing the fiscal rules of the FSL, particularly through the Development Bank of Mongolia
(DBM). Weak budget credibility has also been a concern as the 2012 budget were repeatedly amended
throughout the year. Against this background, this note summarizes the key features of the 2013 budget
and outlines the fiscal outlook and highlights risks.
II. Key Features of the Budget
Macro-economic Assumptions of the Budget
The 2013 budget projects the economy to expand by 18.5 percent in real terms with the nominal
GDP reaching MNT 17.6 trillion. The high economic growth in 2013 is expected to be driven by the
significant increases in total export of 78 percent and the mineral extraction of 60 percent. Inflation is
targeted to be contained at 8.1 percent in 2013 as part of monetary policy guidelines. The budget provides
the following brief explanation on key assumptions underlying the growth projection:
Rising mineral production and export. OT (Oyu Tolgoi mine) gold-copper deposit will start
its production early 2013 as scheduled. OT is expected to produce 382 thousands of tons of
copper concentration, 424 thousands of ounces of gold and 802 thousands of ounces of silver in
2013. Coal extraction by ETT (Erdenes Tavan Togoi LLC) is also projected to double in 2013.
Improved trade balance. Total exports are expected to increase by 78 percent whilst imports are
expected to increase by only 17 percent. As stated above, mineral production from OT and ETT
will drive the increase in exports: the export of copper concentration will reach to 1.1 million tons
and coal export is projected to reach 30 million tons in 2013 with washed coal accounting for
about one-third. Total import are expected to grow in 2013 following increased demand for
construction materials and machineries, including for the expansion of ETT production and the
launch of large scale infrastructure projects.
Non-mineral sectors are projected to show relatively robust growth. The agriculture sector is
forecasted to grow by 4.5 percent due to larger production of wheat and livestock thanks to
increased number of young livestock born between 2010 and 2012. Processing industry is
expected to grow 12.3 percent due to the expansion of meat-processing, flour mill and factories.
Transportation, trade and service sector is projected to grow by 10.5 percent in line with growing
production of the mining sector and the expansion of construction/maintenance work. Wholesale
and retail business is projected to grow by 13 percent.
Overview of the Budget
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Under the macro-economic assumptions, the 2013 budget provides the following revenue projections and
corresponding expenditure plans, as summarized in Table 1. For more detailed composition of the budget,
see the Annex.
Total revenue is projected to increase by 28.9 percent, reaching MNT 7,258 billion. Total
mineral revenue including CIT, royalties and dividends is expected to account for about 24
percent (MNT 1.7 trillion) of total revenue.
Total expenditure and net lending is planned to rise by 17.9 percent, reaching MNT 7,444.6
billion, largely due to the sharp increase in capital expenditure by 44.7 percent.
The structural balance is projected to reach two percent, meeting the ceiling (two percent of
GDP) set by the Fiscal Stability Law. However, it remains highly uncertain whether the
projected fiscal deficit can be actually met, given the optimistic revenue projections and
ambitious expenditure plans. MNT 169 billion (equivalent to one percent of GDP) is planned to
be deposited in the Fiscal Stability Fund (FSF).
Table 1. Summary of the 2013 Approved Budget
2012 Amended 2013 approved
Billion MNT
% of GDP Billion MNT % of GDP % change
A. TOTAL REVENUE AND GRANTS 5,631.7 34.9% 7,258.1 41.1% 28.9%
B. TOTAL STRUCTURAL REVENUE AND GRANTS 5,530.3 34.3% 7,088.3 40.2% 28.2%
Tax revenue 4,925.6 30.5% 6,461.5 36.6% 31.2%
Non tax revenue 602.9 3.7% 626.0 3.5% 3.8%
C. TOTAL EXPENDITURE AND NET LENDING 6,312.2 39.1% 7,444.6 42.2% 17.9%
CURRENT EXPENDITURE 4,606.3 28.6% 4,906.1 27.8% 6.5%
Wages and salaries 1,220.9 7.6% 1,406.2 8% 15.2%
Subsidies and transfers 2,363.1 14.6% 2,028.4 11.5% (14.2%)
CAPITAL EXPENDITURE 1,719.7 10.7% 2,488.9 14.1% 44.7%
Domestic investment 1,409.0 8.7% 2,008.2 11.4% 42.5%
D. STRUCTURAL BALANCE : B-C (781.9) (4.8%) (356.3) (2%)
E. OVERALL BALANCE: A-C (680.5) (4.2%) (186.5) (1.1%)
F. STABILIZATION FUND: E-D 101.4 0.6% 169.8 1%
Source: MOF 2013 Budget, WB staff calculation
Key Features of the Revenue Projections
Total revenue is projected to reach MNT 7,258.1 billion (41.1 percent of nominal GDP), up by
about 40 percent from the 2012 revenue outturn and by 28.9 percent from the final 2012 budget.
Tax income constitutes 91 percent of total structural revenue in 2013 with VAT, PIT and other taxes and
fees as major revenue sources for the government. Mineral revenue (MNT 1.7 trillion) is projected to
increase by 62 percent due to the increased mineral export from the OT and TT mines (including extra
revenue expected from the renegotiation of the 2009 OT Investment Agreement). Non-mineral revenues -
accounting for 76 percent of total revenue - are projected to increase by 21 percent in line with the pace of
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expected economic expansion. Figure 1 illustrates the composition of the total tax revenue and Figure 2
shows the trends of mineral and non-mineral revenues.
Source: Ministry of Finance, 2013 Budget, World Bank staff calculation based on the 2013 budget document
Total mineral revenues including CIT, royalties and dividends are expected to account for
approximately 24 percent (MNT 1.7 trillion) of total revenue. Mineral revenue for 2013 is to be
almost 62 percent higher than in 2012 (about MNT 1 trillion), following from the OT renegotiation and
increased exports of gold and coal. Table 2 provides projections for mineral revenues estimated by the
Ministry of Finance.
Table 2. Composition of Mineral Tax Revenues: 2013 Budget
Commodities
Tax Source (billions of MNT)
Total CIT Royalty
Progressive Royalty
Dividend Customs
Tax Others
Gold 15.95 75.1 20.6 - - 9.9 121.5
Coal 72.9 188.9 74.6 16.30 52.2 61.27 466.1
Copper 44.1 115.2 153.6 66.0 79.0 0.95 457.9
Others 26.6 76.9 48.9 - 10.58 7.22 170.3
Sub-total Mineral Revenue 174.1 461.2 298.5 82.30 63.7 177.3 1,252.7
Extra OT Revenue 224.5 - 221.3 - - - 445.8
Total Mineral Revenue 398.6 461.2 519.6 82.3 63.7 177.3 1,702.9
Note: Sub-total mineral revenue excludes the extra revenue from the OT mine expected by the government.
The Government excludes the VAT from mining sector from the mineral revenue calculation.
Source: Ministry of Finance
Mineral revenue projections largely depend on the underlying assumption concerning major
commodity prices and volumes. The FSL requires the Government to define major commodities that
generate three or more percent of fiscal revenues and formulate their structural prices according to the
special rule under the FSL 1
. Table 3 below illustrates the assumption on structural prices of major
1 According to the FSL, the structural prices of major commodities are calculated as the average of: (i) the historical average commodity prices of the past 12 years and (ii) the average of the price projections for four years including the current year.
1994
3122
4162
5632
7258
1594
2217
2980
4585
5556
400
905 1182 1047
1702
0
2000
4000
6000
8000
2009 2010 2011 2012 2013
Total Revenue
Non-minereal Revenue
Mineral Revenue
PIT 6.6%
CIT 13.4%
Social security
contributions
11.4%
VAT 30.2%
Excise tax
9.3%
Customs duties 8.9%
Other taxes, fees
20.2%
Figure 1. Major Components of Tax Revenue
: 2013 Budget
Figure 2. Projections for Total Revenue and Mineral
Revenue: 2013 Budget (billions of MNT)
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commodities of the 2013 budget according to the rule (for example USD 6,328 per ton for copper, and
USD 131.5 per ton for washed coals). Government projections on structural prices of major commodities
seem conservative compared to the structural prices of the 2012 amended budget as they followed the
fiscal rule set in the FSL. The structural prices for major commodities in the 2012 amended budget were
USD 7,970 per ton for copper, USD 166.6 per ton for processed coal, USD 102.6 per ton for coking coal
and USD 72.4 per ton for hard coal. The price of copper at the London Metal Exchange averaged at
around USD 7,700 per ton in November and December. Given these assumptions total exports are
projected to grow by 78 percent (y/y) and total import by 17 percent (y/y) in 2013.
Table 3. Major Commodity Price and Volume Projections of the 2013 Budget
Volume Structural Price Market Price
Copper 945 thousand tons USD 6328.9 /ton USD 8,152 /ton
Processed coal 5.8 million tons USD 131.5 /ton USD 161.2 /ton
Coking coal (above 5500 kkal) 14.4 million tons USD 80.2 /ton USD 96.7 /ton
Hard coal (4000-5500 kkal) 5.7 million tons USD 65.5 /ton USD 83.17 /ton
Source: Ministry of Finance, 2013 Budget
The 2013 budget records the privatization receipts of MNT 20 billion as an above-the-line item in
non-tax revenue category, a different practice from the past budgets. Past budgets have recorded
privatization receipts as a financing component at the below the line, following the guidelines of the 2011
Government Financial Statistics Manual (IMF) which categorizes privatization receipts as a financing
item. While the absolute amount of the privatization receipts is not relatively large, it must be noted that
recoding the privatization receipt as non-tax revenue instead of financing would reduce the fiscal deficit
by the corresponding amount.
The revenue projections underlying the 2013 budget appear overly optimistic. Compared to the
annual revenue outturn in 2012 estimated by the World Bank staff based on the actual revenue data
between January and November, the 2013 revenue projection is expected to be about 40 percent higher.
(For more details of the 2012 outturn estimates, see Box 1.) The budget also includes the controversial
extra revenue from re-negotiating the investment agreement with OT. Given these, the recent IMF staff
report (Nov, 2012) indicates that the potential revenue shortfall of the 2013 budget will likely reach over
6 percent of GDP.
The underlying assumption of 18.5 percent economic growth may be too optimistic, given
the frail global economic outlook and the uncertain prospect of the economic recovery of
China. Recent growth projections for 2013 of the World Bank and the IMF were 16.2 percent
and 16.8 percent respectively, which are also likely to be downward adjusted given the slow pace
of economic growth during the latter half of 2012. Mongolia’s economic outlook will largely
count on China’s economic performance: China accounted for 93.7 percent of total export during
the first 8 months of 2012. China’s economic growth decelerated gradually throughout 2012 from
8.1 percent during the first quarter to 7.4 percent during the third quarter, the lowest level in the
past 14 quarters. Recent monthly data on industrial production and fixed asset investment
indicates that China may be bottoming out thanks to strong investment of public sector. However,
the prospect of China’s economic rebound remains uncertain especially given still looming
downside risk over main trade partners including Europe and the US.
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The budget revenue projections reflect the renegotiation plan of the 2009 OT investment
agreement, that is expected to yield MNT 445.8 billion or 2.5 percent of GDP (see Table 2).
The additional source of income expected from the re-negotiation includes progressive royalty tax
revenue (MNT 221.3 billion) arising from increased royalty from the current 5 percent under the
2009 investment agreement up to 20 percent depending on the commodity price level. In addition,
MNT 224.5 billion is to be recorded under the CIT (corporate income tax). However, it remains
uncertain from which sources of CIT the budget is expecting to raise additional resources2. The
items may reflect the Government’s rough expectation on extra revenues coming from abolishing
CIT related discounts and exemptions under the Double Tax Agreement with Netherlands which
was recently announced to be invalidated. However, it remains highly uncertain if and how the
operators of Oyu Tolgoi would agree to the Government’s plan, especially given that the extra
income is almost three times the tax payment the OT is supposed to pay under the original
investment agreement. Furthermore, the uncertainty surrounding the OT re-negotiation issue
could add another serious down-side risk to the vulnerable revenue projection as the production
of the OT mine could be further delayed due to the stalemate on the investment agreement.
Key Features of Expenditure Plans
The 2013 budget provides an additional 17.9 percent of total expenditure and net lending when
compared to 2012. Total expenditure and net lending is planned to reach MNT 7,444 billion, equivalent
to 42.2 percent of GDP in 2013. The double digit spending increase is mainly due to the 42.5 percent
increase in domestic investment, expected to account for almost 30 percent of total expenditure.
Source: Ministry of Finance, 2013 Budget, World Bank staff calculation
2 The budget provided the following explanation: “The parliament assigned the Government to take royalty from the Oyu Tolgoi via amending Investment Agreement and to reduce some concessions and exemptions on CIT, which will together generate MNT 445 billion of revenue.”(World Bank translation)
Wages & Salaries 18.9%
Goods & services 14.4%
Interest payment
5.3%
Subsidies 2.5%
Transfers 24.8%
Domestic Investment
27.0%
Others 7.1%
Figure 3. Major Components of Total
Expenditures: 2013 Budget
6.5
15.2
23.1
-17.9
44.7 42.5
-7
6.5
15.2
23.1
-17.9
44.7 42.5
-7
Figure 4. Changes in Major Components of
Expenditures: 2013 Budget vs 2012 Budget (%)
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Current expenditure is planned to increase by 6.5 percent in 2013, a significant slowdown when
compared to the 28 percent increase in the 2012 amended budget. The relatively moderate current
spending increase reflects slower growth or reductions in the two largest current spending items: (i)
wages and salaries will only increase by 15.2 percent compared to an alarming 53 percent in the 2012
budget and (ii) the reduction of transfers by 17 percent. There were noticeable increases in debt-service
payment by 162 percent.
The spending on government wages and salaries significantly slowed down to 15.2 percent
from over 50 percent of the 2012 amended budget. Government wages has been increasing
significantly to keep the civil service wages competitive, however options with less fiscal burden
needs to be considered given its impact on fiscal burden and inflation. A recent World Bank
report3 highlights that civil service wages have been raised through regular 15-30 percent across-
the board salary increases over the past five years but the increases have not kept pace with the
much higher growth in relevant private sector wages. Meanwhile, the nominal wage bill has
increased seven-fold since 2003 and become a significant fiscal burden. Adding to it, a recent
IMF study4 suggests that the government wage hikes are likely to be the most contributing factor
to inflation among major spending items, estimating that the sharp wage increase over 50 percent
in 2012 could have contributed to inflation by around 5 percentage points. Given these findings,
the Government needs to consider a more flexible pay policy, replacing the current across-the-
board salary increases with more targeted market-based salary premiums across different
categories of staff.
Interest payment from outstanding government debt is projected to increase by 162 percent
from MNT 153 billion to MNT 398 billion. The debt-service includes MNT 140 billion for the
global sovereign bond issue of USD 1.5 billion made on Nov 28, 2012 with the following two
tranches: USD 0.5 billion of five-year bond at 4.125 percent and USD 1 billion of ten-year bonds
at 5.125 percent. Interest payment for the external borrowing (USD 580 million) by the DBM is
planned to be MNT 97.5 billion.
Transfers are planned to be reduced to MNT 1.8 trillion by 17.9 percent in 2013 from MNT
2.2 trillion due to the significant reduction of the cash transfers in the Human Development
Fund (HDF). Transfers include local government transfers, social welfare contributions and the
HDF; together accounting for 24.8 percent of total expenditure in 2013. Total transfers from the
HDF in 2013 will decline by 67 percent from MNT 866 billion to MNT 284 billion as the
universal transfer scheme is replaced by the Child Money Transfer5. The HDF budget includes
the new Child Money Transfer (MNT 240 billion) and the remainder of universal cash-handouts
(MNT 32 billion) to be given only to those6 who did not receive their entitled transfers during the
period 2010-2012 due to administrative problems. The HDF receives revenues according to the
3 The World Bank, Policy Note, October 2012, Mongolia: Civil Service Reform Options
4 International Monetary Fund, Working Paper WP/12/192, July 2012, Inflation Dynamics in Mongolia 5 Child Money program plans to give MNT 20,000 monthly to every child between 0-18 years old. 6 Under the universal transfer program, MNT 1 million was originally planned to be given to every citizen. As part of the scheme, MNT 500,000 was given to every citizen during 2010-2012. The MNT 32 billion in 2013 targets those who did not receive MNT 500,000 due to administrative reasons.
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Human Development Law including: (i) royalty7, (ii) dividend, (iii) progressive royalty from OT
renegotiation. See Table 4 for the breakdown of the HDF budget.
Table 4. 2013 Human Development Fund (billions of MNT)
Expenditure 2013 Revenue 2010 2011 2012 2013
Cash Transfer 305.0 721.3 751.3 272 Royalty 396.4
Dividend 70
Progressive Royalty 155
Health Insurance Contribution
10.9 15.8 12.2 12.2
Others 0 66.8 102.6 0
Total 315.9 803.9 866.0 284.2 621.4
Source: Ministry of Finance, 2013 Budget, World Bank staff calculation
Total capital expenditure is planned to be raised by 44.7 percent, driven by significant increases in
domestic investment of 42.5 percent. The domestic investment spending envelope (MNT 2,488 billion)
for 2013 is almost twice the level of 2011, increasing from 20 percent of domestic spending in 2011 to 27
percent in 2013. Despite the increase in capital expenditure, a seven percent reduction in capital repairs
adds to concerns about maintaining the quality of the new and existing capital investments.
Increasing significance of domestic investment spending underscores the importance of
efficient and effective planning and implementation of development budget. The Integrated
Budget Law (IBL) represents a significant step in strengthening the regulatory framework for
project preparation and appraisal, and in improving the coordination between planning and capital
budgeting. However, operationalization of the IBL is very much a work in progress. Given the
increasing size of domestic investment and the current capacity of the Ministry of Economic
Development (MED) and Ministry of Finance (MoF), the recent split of responsibilities for
capital and recurrent budgets between
the ministries is likely to jeopardize
efficient project preparation and
supervision. A more pragmatic and
realistic approach is needed to make
best use of available resources within
the Government given the capacity
constraint, including having the MoF
retain the current capital budget
function for smaller projects and the
MED be responsible for large projects.
A recent World Bank report8 provides
in-depth discussion and various policy
recommendations on how to improve
7 According to the Integrated Budget Law, royalty from minerals are distributed as the following rules: 70% for HDF, 25% for central government budget, and 5% for Local Development Fund. 8 The World Bank, October 2012, Improving Public Investment to Meet the Challenge of Scaling Up Infrastructure
35
9
0
5
10
15
20
25
30
35
40
2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013
New Investment
Capital Repairs
Figure 5. Growth in New Investments and Capital Repairs (2003 level = 1)
Source: Ministry of Finance, World Bank staff calculation
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public investment in Mongolia’s.
Reduced capital repairs (down by seven percent) adds to the concern on under-allocation of
resources on capital maintenance and repair. The recent World Bank Infrastructure8 report
suggested that the neglect of capital maintenance is approaching crisis proportions, especially in
the energy and roads service. For example, costs of immediate capital repair needs in the
electricity sector alone reached almost two percent of GDP and 60 percent of the national paved
road network is in need of repair and rehabilitation at an estimated cost of roughly seven percent
of GDP. However, the 2013 budget puts heavy priority on new investments with the ratio of
capital repairs to new investment declining over the past five years. The neglect in maintenance
and repairs is both fiscally and economically costly, reducing the life-span of existing
infrastructure that will result in a significant future increase in the fiscal burden due to larger
rehabilitation cost down the line. Given the rapidly growing investment, proper allocation for
capital maintenance and repair is essential to keep the exiting capital functioning and providing
intended benefit.
The budget is yet to include recently announced Price Stabilization Program that is expected to cost
MNT 718 billion (four percent of 2013 GDP) over the next three years. The program was launched by
the Government to stabilize prices of major consumption goods including staple food, fuel, imported
consumption goods and housing price. Under the agreement with the Government, the central bank will
temporarily provide discounted loans to suppliers of selected goods through commercial banks until the
Government issues bonds to replace the central bank’s loan. The objective of the Government program is
noble in a sense that it aims to address supply side factors pushing inflation, however the implementation
and financing schemes of the program include several potential problems, including:
The price stabilization program involves the central bank excessively in the fiscal
operations, including supervision and implementation monitoring. The program is a typical
Government operation to address supply side bottlenecks including transportation, distribution
and storage of strategic goods. The role of the central bank stipulated under the agreement with
the Government is clearly way beyond the traditional role of central bank.
The financing scheme includes new central bank loans, which would inevitably create new
money injection (equivalent to base money supply of 4 percent of GDP). This is an
inflationary measure adopted to curb inflation. The central bank currently does not have a plan to
sterilize the supply of new money. While the new money supply could be temporary should the
Government eventually replace it with new bond issue, there is high likelihood that the central
bank will stay as a main financier of the program through purchasing the government bond. The
Government and the central bank have to make sure that the central bank does not finance the
program once the Government replaces the central bank loan through the proceeds of government
bonds, as announced by the MoU.
Cost of the program need to be properly reflected in the budget in order to: (i) have the
fiscal plan account for all policy operations creating fiscal burden; (ii) disconnect even the
remote possibility of the central bank’s functioning as another channel for off-budget
financing. While the program is planned to have three-year horizon of implementation, most of
the lending from the central bank is likely to be implemented upfront in 2013.
9
Financing Plan
The 2013 budget projects the structural fiscal deficit to be two percent of GDP to meet the ceiling
under the FSL. The budget plans to finance 55 percent of the financing gap through domestic bond
issues and borrowings and deliver 45 percent from external financing. The gross new domestic bond
issuance in 2013 is planned to be MNT 812 billion and MNT 421.8 billion will be used to repay
principals of outstanding bonds. The budget plans to deposit about MNT 169.7 billion of mineral
revenues in the Fiscal Stability Fund (FSF), equivalent to one percent of GDP. The sources of mineral
revenues for FSF will be composed of the CIT (MNT 38 billion), royalty (MNT 55.3 billion) and
progressive royalty (MNT 76.4 billion).
The financing plan is yet to reflect the recent bond issue of USD 1.5 billion and the new external
financing should be recorded in the below the line part of the budget since this is a government
financing operation. The huge sovereign borrowing is equivalent to over 11-12 percent of 2013 GDP
and will be a significant fiscal burden going forward. The 2013 budget currently reflects only the interest
payment expected for the newly issued bond. Its effect on the 2013 fiscal deficit will depend upon how
the government uses the proceeds: (i) if the government deposits the proceeds in its Bank of Mongolia
account, it will only be a below-the-line operation, not affecting the fiscal deficit; (ii) however if the
government spends the proceeds to finance government programs including infrastructure investments,
the use of the proceeds should be recorded in the above-the-line of the budget either as a capital
expenditure (if directly used to finance government infrastructure projects) or a net-lending component (if
lent to the DBM). In the latter case, the fiscal deficit would increase by corresponding amount, thereby
posing a significant risk of breaching the ceiling of the structural fiscal deficit of the FSL.
III. Fiscal Outlook and Risk
Despite the commitment of the budget to the 2 percent ceiling of the FSL, the fiscal target is likely
to be hard to achieve. The revenue projections are potentially over-estimated, given the revenue
shortfalls in 2012 and the inclusion of controversial extra revenue (MNT 445 billion) expected from re-
negotiating the 2009 OT (Oyu Tolgoi mine) investment agreement. Potential revenue shortfall may reach
up to 6 percent of GDP9. The spending plan of the current budget is yet to include two new spending
elements that could have significant adverse impact on the fiscal outlook: (i) Price Stabilization Program
(MNT 718 billion) and (ii) the use of proceeds from the sovereign bond issue of USD 1.5 billion. Exact
fiscal impact from the additional spending components remains uncertain at this stage. However, we
expect that the fiscal deficit may reach over 6 percent and the magnitude could be larger depending on
how the extra spending plans unfold. (See Box 1 for more details.)
The fiscal imbalance would be much higher if off-budget financing operations were included in the
fiscal outlook of the budget. Plans for the Development Bank of Mongolia (DBM) to finance large
infrastructure projects through borrowing up to USD 5 billion have raised a serious concern on fiscal
sustainability and macro-economic stability. While not covered under the rule of the FSL, the DBM is
becoming a major source of public financing for infrastructure projects. Financing projects with poor
prospect of cost recovery, the DBM operation will become significant fiscal burden that has to be
9 It is based on the amount of extra revenues from OT renegotiation and the projected revenue estimates by the IMF Staff Report.
10
eventually repaid by the budget and has to be properly contained under the rules of the FSL. The fiscal
burden from off-budget financing through the Development Bank of Mongolia (DBM) announced in
2012 is estimated to be over 4 percent of GDP in 201310
.
The recent involvement of the BoM in the Price Stabilization Program and the ambiguity on the use
of sovereign bond proceeds are adding to concerns on growing tendency to bypass the FSL.
Participation of the BoM in the Government’s price stabilization measures through
providing a subsidized financing is beyond the traditional role of monetary authorities. The
ambiguity on the role of the central bank in the program points to the possibility that it will
eventually turn into a government program relying on cheap central bank financing. If the
financing of the program were to be implemented up front next year, the total fiscal burden from
the program would reach up to 4 percent of GDP. A clear exit strategy of the central bank from
the role of financier of the government program needs to be announced and the cost of the
program needs to be properly included in the budget.
While it is a sign of growing interest from the global financial market in Mongolian
economy, the new bond issue could become a significant fiscal risk without prudent plans to
use the proceeds. The lack of concrete plans on how to use and record the use of the proceeds of
the recent USD 1.5 billion sovereign bond issue (equivalent to 11-12 percent of GDP) also raises
concern that the Government may seek ways to use it as an off-budget financing vehicle. During
the road-show on the sovereign bond deal, the Government announced that the proceeds will be
used to finance infrastructure projects (via debt and/or equity injections). The Government also
announced that the proceeds will not be used to fund the general budget nor social welfare
programs. The Government is likely to explore ways to use the fund to finance infrastructure
projects through the DBM. As noted in the previous section, the receipts and use of the proceeds
should be properly accounted in the budget no matter how the government plans to use it: either
as a direct expenditure to government operations or for lending to the DBM.
In planning for the use of the sovereign bond proceeds, the Government needs to take
adequate time and caution to select and appraise projects, considering the absorptive
capacity of the economy and the management capacity of the government. Strong political
pressure to facilitate the spending is almost certain. However, front-loading the use of the
proceeds in a hasty manner will likely: (i) add to the expansionary fiscal stance and escalate
internal/external imbalances of the economy; (ii) include poorly prepared and politically-
motivated projects. . If all the proceeds were to be used for investment in 2013, it would make the
domestic investment almost double from the 2012 level and the GDP share of domestic
investment would reach over 23 percent. Given the significant fiscal and macro-economic
implication, any new projects to be included should be subject to rigorous project selection and
appraisal process. The projects to be financed by the proceeds need to be bankable/revenue-
generating projects with sufficient cost recovery, especially given the size and financial cost of
the foreign currency borrowing to be repaid by the budget.
10 Annual spending plan for 2013 of the DBM is not clear yet. This estimates follows the assumptions of the IMF Staff Report (Dec, 2012) that the DBM will spend USD 500 million from government guaranteed bonds issued every year during 2013-2016.
11
Box 1. The 2012 Outturn and the 2013 Fiscal Projection
The projection of the 2012 outturn based on the Jan-Nov outturn data of the budget (National Statistics Office) indicates that even the revenue projections of the second amendment budget in September 2012 were optimistic. During the first eleven months, the revenue receipts reached 78 percent of the budget projection and the expenditure execution reached 80 percent of the budget plan. Should the revenue and expenditure in December follow the past outturn trend during the 2007-2011 period, total revenue for 2012 would fall short of the budget by 2.7 percent of GDP. Assuming that the expenditure outturn reaches 95 percent of the 2012 budget, the overall deficit of the general government is projected to reach around 5% in 2012.
In 2013, the total revenue is expected to fall short of the budget by about 6 percent of GDP while the spending envelope of the current budget is projected to be adjusted downward due to the revenue shortage. However, the inclusion of two additional spending components (Price Stabilization Program and the use of the proceeds from the recent USD 1.5 billion) will likely offset the spending adjustment: the extra spending from the two components is projected to be over 4 percent of GDP in 2013, assuming that only one-third of the total cost of Price Stabilization Program is implemented in 2013 and one-quarter of the bond proceeds are used either for new direct investment by the Government or are lent to the DBM. Under these assumptions, the overall fiscal deficit is projected to reach over 6 percent and the structural deficit over 7 percent, breaching the ceiling set by the FSL. This projection is indicative as the actual fiscal outlook will depend on the decision of the Government on how to re-prioritize or adjust downward the spending envelope and how much of the new spending components to be implemented in 2013.
Table 5. Outlook for Key Fiscal Indicators
2012 2013
Budget Outturn
1
(Staff projection) Budget
(Trillions MNT) Staff Projection (Trillions MNT)
Total Revenue 5.6 5.2 7.3 6.12
Structural Revenue 5.5 5.1 7.1 5.9
Government Expenditure 6.3 6.0 7.4 7.23
Structural Balance(% of GDP) (4.8%) (5.6%) (2.0%) (7.6%)
Overall Balance(% of GDP) (4.2%) (5.0%) (1.1%) (6.6%)
Source: Ministry of Finance, World Bank Staff Projection, IMF Staff Report (Nov, 2012)
1 The 2012 outturn was estimated based on the actual outturn from January through November 2012 and the past
trends of revenue and expenditure in December during 2007-2011. 2 The staff revenue projection for 2013 is based on the IMF staff projection of the Staff Report (Nov, 2012) and assumes
the extra revenues from the OT renegotiation will not be materialized. 3 The projection for government expenditure assumes that the current spending envelope the 2013 budget will be
under-executed by 10 percent but the Price Stabilization Program and the use of the bond proceeds of USD 1.5 billion will add extra spending. The projection assumes that the total cost (718 million MNT) of the Price Stabilization Program will be evenly distributed for three years and only a quarter of the proceeds from the USD 1.5 billion will be used for new government spending programs or net-lending in 2013. In an alternative scenario, If the current spending envelope of the 2013 budget is 100 percent executed, the overall deficit is projected to reach 12 percent of GDP under the same assumption of extra spending from the two additional spending components.
12
Annex: Key Components of the 2013 Budget
Billions of MNT Percentage Share of GDP 2013
Budget (%
Change)
2011 actual
2012 amend
2013 2011
actual 2012
amend 2013
TOTAL REVENUE AND GRANTS 4,468,198.0 5,631,686.9 7,258,092.4 40.3 34.9 41.1 28.9
TOTAL STRUCTURAL REVENUE AND GRANTS
4,227,178.1 5,530,336.9 7,088,333.7 38.1 34.3 40.2 28.2
Tax revenue
3,668,307.8 4,925,603.9 6,461,531.6 33.1 30.5 36.6 31.2
Income Tax 833,738.9 950,859.7 1,261,481.6 7.5 8.2 5.9 32.7
PIT 232,257.3 292,182.2 397,727.5 2.1 1.8 2.3 36.1
CIT 545,631.1 658,677.5 863,754.0 4.9 4.1 4.9 31.1
Social Security Contribution 473,351.3 591,565.0 732,018.1 4.0 4.7 3.7 23.7
Sales Tax and VAT 1,114,382.5 1,734,053.0 1,940,163.9 11.0 11.0 10.7 11.9
Excise Taxes 293,967.0 376,367.5 595,227.5 3.0 2.9 2.3 58.2
Foreign Trade Taxes 337,422.6 565,955.9 575,299.6 3.5 3.3 3.5 1.7
Other Taxes 662,859.7 1,296,310.9 633,451.2 5.1 5.6 4.1 95.6
Royalty 204,921.7 291,646.4 367,329.4 1.8 1.8 2.1 26.0
Progressive Royalty 177,785.2 193,365.1 199,035.1 1.6 1.2 1.1 2.9
Non tax revenue 545,366.5 602,915.0 625,986.5 4.9 3.7 3.5 3.8
TOTAL EXPENDITURE AND NET LENDING
4,997,040 6,312,220.3 7,444,625.0 45.1 39.1 42.2 17.9
CURRENT EXPENDITURE 3,236,403 4,606,347.5 4,906,137.0 29.2 28.6 27.8 6.5
Wages and salaries 802,465 1,220,856.9 1,406,241.5 7.2 7.6 8.0 15.2
Purchase of other goods and services
702,040 870,752.0 1,072,066.4 6.3 5.4 6.1 23.1
Subsidies and transfers 1,694,577 2,363,149.3 2,028,389.1 15.3 14.6 11.5 (14.2)
Subsidies 122,881 119,232.8 185,993.3 1.1 0.7 1.1 56.0
Transfers 1,571,697 2,243,916.5 1,842,395.8 14.2 13.9 10.4 (17.9)
CAPITAL EXPENDITURE 1,280,920 1,719,710.4 2,488,859.6 11.6 10.7 14.1 44.7
Domestic investment 1,020,970 1,408,993.0 2,008,220.0 9.2 8.7 11.4 42.5
Capital repairs 50,139 55,776.9 51,875.4 0.5 0.3 0.3 (7.0)
STRUCTURAL BALANCE (%) (769,862) (781,883.4) (356,291.3) (6.9) (4.8) (2.0) (54.4)
OVERALL BALANCE (%) (528,841.8) (680,533.4) (186,532.6) (4.8) (4.2) (1.1) (72.6)
STABILIZATION FUND 241019.89 101350.00 169,758.7 2.2 0.6 1.0 67.5
Source: Ministry of Finance (2013 Budget), World Bank staff calculation