Gradual Recovery On The Cards
Parliamentary elections are scheduled to take place by June 2016, and Mongolia's political environment will be volatile ahead of the elections. The two major parties, namely the Democratic Party and the Mongolian People's Party, are unlikely to win a convincing mandate, and we expect a coalition government to be formed. This means that the business environment will remain challenging for investors.
The Mongolian economy will begin a gradual recovery in 2016, and we forecast real GDP growth to average 7.9% over the next decade as investment recovers owing to the second phase expansion of the Oyu Tolgoi (OT) copper and gold mine, which is estimated to commence in the middle of 2016. However, the landlocked economy will continue to face headwinds due to a cooling Chinese economy, which will prevent the Mongolian economy from growing at a faster pace.
We remain bearish on the Mongolian togrog against the US dollar, and forecast the unit to average MNT2,075/USD in 2016 and MNT2,178/USD in 2017. The country's widening current account deficit and signs of increasing external vulnerability will put downside pressure on its currency. However, the return of foreign inflows due to the second phase development of the Oyu Tolgoi gold and copper mine will prevent any excessive weakness.
Following the decision by the Bank of Mongolia (BoM) to reduce its 1-week central bank bill by 100 basis points (bps) to 12.00% in late-December 2015, we forecast that the central bank will cut its key policy rate by another 100bps to 11.00% by the end of 2016, with the aim of supporting the country's sluggish economy. Falling headline consumer price inflation (CPI) due to shrinking money supply will provide scope for the central bank to ease its monetary policy stance over the coming months.
Mongolia will continue to run fiscal deficits in the coming years as structurally low commodity prices temper revenue growth while public expenditure growth remains elevated as the government struggles to reduce spending in 2016 as parliamentary elections loom. The country is increasingly at risk of a credit event as Mongolia and its state-linked entities are facing significant bond repayments beginning from 2017.
Major Forecast Changes
We have downgraded our 2016 real GDP growth forecast to 3.2% (versus 4.5% previously) as the country's economic fundamentals worsen and a further deceleration in the Chinese economy, which accounts for approximately 90% of the demand of Mongolia's overall exports.
We have revised weaker our average currency forecast to MNT2,075/USD in 2016 (versus MNT2,000/USD previously) as the country's widening current account deficit due to a pick up in imports and subdued export growth amid continued elevated external indebtedness will put downside pressure on the togrog.
We have downgraded the government's reported budget deficit as a share of GDP to 6.2% in 2016 (from 6.0% previously) as austerity by the government is unlikely to be successful in a parliamentary election year, keeping expenditure elevated. Meanwhile, government revenues will remain weak as any recovery in the Mongolian recovery is likely to be gradual.
Upside Risk: An early start of the second phase of expansion at the OT project would help galvanise investment activity.
Downside Risk: In a worst-case scenario, a significant slowdown in Chinese economic growth and, by extension, demand for commodity imports would seriously hamper Mongolia's growth prospects. Any deterioration in the country's business environment due to delays in other major mining projects could weaken investor confidence, which could force the BoM to hike rates unexpectedly (to the detriment of the banking sector), in order to shore up the currency.
|e/f= BMI forecast. Source: BMI, National Sources|
|Real GDP growth, % y-o-y||7.9||2.5||3.2||6.6|
|Nominal GDP, USDbn||12.0||12.1||12.6||13.5|
|Consumer price inflation, % y-o-y, eop||11.0||1.9||5.0||6.5|
|Exchange rate MNT/USD, eop||1,888.50||1,993.00||2,150.50||2,205.02|
|Budget balance, % of GDP||-4.1||-4.9||-6.2||-6.0|
|Current account balance, % of GDP||-8.2||-7.2||-9.2||-9.2|
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