Once one of the poorest nations
on earth, the biggest problem Mongolia will have to face in the near term is
coping with too much money arriving all at once. A raft of mining projects are
expected to bring billions of dollars into the USD5-billion economy over the
next decade, with USD4.6 billion arriving in the next three years alone from
the Oyu Tolgoi copper-gold mine being developed by Ivanhoe Mines.

Mongolia was walloped along with
the rest of the region by the international economic crisis, and then smacked
by a severe winter. Nevertheless, the country continues to enjoy one of the
strongest recoveries of any country in the world (albeit from a low base). The
agricultural sector was particularly hard hit by a winter so harsh that it
killed one in three animals of herders, but the construction and services
sectors held up well and actually put in growth of 8.3% and 20% respectively in
2009.

All in all, the Central Bank is
very upbeat on the country’s future over the next few years. After the nasty
contraction in 2009, the economy is expected to grow by 7-8% for the rest of
the year, N. Zoljargal, deputy governor, told investors at a recent conference
in Ulaanbaatar. The International Monetary Fund agrees, forecasting 7.1% and
7.2% growth in 2011 and 2012 respectively.

The major problem facing Mongolia
is how to manage the wall of money that will hit once Oyu Tolgoi starts
producing. The fiscal stability law, adopted on June 24, aims to constrain
fiscal spending to sustainable levels, as well as keep expenditure under the
rate at which the economy is growing. It also demands that a portion of the OT
revenue is invested overseas to offset the possibility of rising exchange rates
and an increasingly uncompetitive manufacturing sector, a condition commonly
known as Dutch Disease.

The rising tide of dollars
flowing into the country is already making itself felt on the national
currency, the MNT, and the central bank is trying to reign in the fast
appreciation of the currency that could put a brake on growth. In August, the
MNT dipped below 1,300 to the dollar, a new record, but had settled at around
1,323 at the start of September after a 17-month period of stability. Longer
term, the MNT is expected to continue to appreciate, which is likely to pull in
more investment and imports.

M2 Money supply has also expanded
fast as the central bank tries to absorb the incoming capital, but despite
concerns raised by the World Bank, Zoljargal insists that “inflation is
under control”. 2010’s inflation rate is forecast by the central bank at
18%, whereas the World Bank predicts over 20% by the end of the year.

Even so, inflation will get a kick
as the Government has promised to grant an MNT 1.5 million (USD1,145)
“gift” next year to each and every Mongolian as part of the two major
parties’ election promise. The government says it will attempt to soften the
blow to the economy by dribbling the money out in the run-up to next year”s
elections, but the gift is still worrying economists.