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Mongolia

2008 Investment Climate Statement - Mongolia

Openness Of Government To Foreign Investment

In its specific policies, laws, and general attitude, the Government of Mongolia supports foreign direct investment (FDI) in all sectors and businesses. Its industrial and economic strategies do not discriminate actively or passively for or against foreign investors. Mongolia screens neither investments nor investors, except in terms of the legality of the proposed activity under Mongolian law.

Mongolian law does not discriminate against foreign investors. Foreigners may invest with as little as US$10,000 cash or the equivalent value of capital material (office stock, structures, autos, etc.). In both law and practice, foreigners may own 100% of any registered business with absolutely no legal, regulatory, or administrative requirement to take on any Mongolian entity as a joint venture partner, shareholder, or agent. The only exceptions to this flexible investment regime are in land ownership, petroleum extraction, and strategic minerals deposits.

Limitations on Participation in Real Estate, Petroleum Extraction, and Strategic Minerals Deposits

Only individual Mongolian citizens can own real estate. Ownership is currently limited to urban areas in the capital city of Ulaanbaatar, the provincial capitals, and the county seats, or soums. No corporate entity of any type, foreign or domestic, may own real estate. However, foreigners and Mongolian and foreign firms may own structures outright and can lease property for terms ranging from three (3) to ninety (90) years.

Mongolian law also requires oil extraction firms to enter into production sharing contracts with the government as a precondition for both petroleum exploration and extraction.

In 2006, the Mongolian Parliament or State Great Hural amended the 1997 Minerals Law of Mongolia. The most noteworthy change to the law is the creation of the concept of a strategically important deposit. The amendments gave the Government of Mongolia the right to obtain up to a 50% share of any mine on such a deposit. The 1997 law had no concept of "strategic deposits" or state equity in mines.

The 2006 amended law defines "mineral deposit of strategic importance" as "a mineral concentration where it is possible to maintain production that has a potential impact on national security, economic and social development of the country at national and regional levels or deposits which are producing or have potential of producing above 5% of total GDP per year." Ultimately, the power to determine what is or is not a strategic deposit is vested in the State Great Hural (SGH). For practical purposes, the Government currently seems to define these deposits as world class copper and coal reserves and all deposits of rare earths and uranium.

If a mineral deposit is determined to be strategic and if the state has contributed to the exploration of the deposit at some point, the Government may claim up to 50%. This applies to all exploration conducted during the socialist era, primarily by Soviet geologists. If the deposit was developed with private funds and the Government has not contributed to the exploration of the deposit at any time, it may acquire up to 34% of the deposit.

State participation (or share) is determined by an agreement on exploitation of the deposit considering the amount of investment made the state; or, in the case of a privately-explored strategic deposit, by agreement between the state and the firm on the amount invested by the state. The SGH may determine the state share using a proposal made by the government (executive branch) or on its own initiative using official figures on minerals reserves in the integrated state registry.

It is important to note that the state equity provision does not seem expropriatory on its face as the Government has committed itself to compensating firms for the share it takes at fair market value. Although experience is limited with the new law, so far the Government has honored this commitment.

Windfall Profits Tax on Copper and Gold:

The Windfall Profits Tax Law of 2006 (WPT) is another highly problematic piece of legislation that draws into question the Government’s commitment to creating an open, predictable, and fair environment for foreign direct investment.

In a mere six days in May, 2006, the State Great Hural (SGH) passed a windfall profits tax (WPT) in an effort to: 1) assuage wide-spread public fears that Mongolia was being stripped of its mineral assets, and 2) to increase revenues for new social spending on pensions and children.

The WPT imposes a 68% tax on the profits from gold and copper mining respectively. For gold, when the price hits US$500 per ounce, the tax is applied to the portion of sales proceeds exceeding that threshold. For copper, the threshold is US$2,600 per ton. Mining industry sources claim that the 68% tax rate, when combined with other Mongolian taxes, makes the effective tax 100% on all proceeds above the two threshold prices. In theory, the WPT proceeds are set aside in a special fund for a combination of social welfare expenditures and a reserve fund.

The speedy, capricious legislative process that birthed the WPT was unprecedented. This bill was passed without any consultation with stakeholders on any its provisions. The entire process has raised concerns among investors about the stability and transparency of Mongolia’s legislative and regulatory environment.

Revisions of the Mongolian Tax Code:

Problems with the WPT aside, major reforms to the Mongolian Tax code in 2006 have greatly improved the business environment in Mongolia for both foreign and domestic investors. Before the reforms, a World Economic Forum survey of Mongolian business executives cited tax rates and the complexity of tax regulations as two of the top five problems for doing business in Mongolia. The tax reforms benefited from two years of technical assistance from USAID's Economic Policy Reform and Competitiveness Project (EPRC). The reforms affected the Personal Income Tax (PIT) and Corporate Income Tax (CIT) codes as well as the VAT and excise tax codes. (EPRC has a number of useful and informative guides on their website: http://www.eprc-chemonics.biz.)

The old corporate income tax system's lack of a loss carry-forward provisions as well as arbitrary caps on deductions for business expenses discouraged investment; businesses could easily end up owing tax, even if they lost money. The old law was so at variance with world norms that it was a prime reason why foreign investors sought tax holidays under stability agreements.

The new laws became effective January 1, 2007 (except the new excise tax law, which went into effect last July 1). In general, the new laws reduce tax rates, flatten the tax schedule, remove discriminatory loopholes and exemptions, and introduce appropriate deduction opportunities for corporate investment.

The new corporate income tax law allows firms loss carry-forward for two years after incurring the loss, potentially encouraging investment and accommodating firms experiencing temporary negative shocks. While most businesses approve of this provision, many note that the two year carry forward limit is insufficient for projects with long development lead times, as is typical of most large-scale mining developments. The new law allows firms to deduct more types of legitimate business expenditures: training, business travel, cafeteria expenses, etc. The new law levels the playing field between foreign and domestic investors, eliminating the majority of discriminatory tax exemptions and holidays (most of which favored international investors).

Unfinished Business (Including Customs Rates):

There is unfinished business, however. Parliament is scheduled to take up additional tax reform measures in 2007. These include revisions to the law on customs and customs tariffs. While the exact natures of the proposed changes in the customs law have been murky, the Government states that changes will be consistent with Mongolia's WTO obligations and investment climate enhancement goals.

Despite these solid, positive changes, international financial institutions warn that last year's legislative changes by themselves are insufficient to improve Mongolia's business environment. Reform efforts need to go beyond changes to the tax code to restructure the operations of the key agencies - the tax department, the customs administration and the inspections agency – that directly interact with private firms and individuals.

2006 Amendments to the Law on State Procurements:

Amended in late 2006, the revised Law on State Procurement (LSP) has two provisions that raise concerns. First, the new LSP bars international competitors from participating in government procurements under US$10 million, which covers 999 of the 1,000 projects budgeted for fiscal year 2007. The old law set a much lower bar for participating in state procurements of about US$1 million. In addition, the amended law specifically exempts power and transport projects from competitive procedures, as they were under the terms of the old law. In these two sectors, ministries may procure the services for the Government by direct contracting for projects under US$10 million and where local capacity is lacking,.

Issues in the Telecom and Aviation Sectors:

While the Mongolian government supports FDI and domestic investment, individual agencies and elements of the judiciary often use their respective powers to hinder investments into such sectors as meat production, telecommunications, aviation, or pharmaceuticals. Both domestic and foreign investors report similar abuses of inspections, permits, and licenses by Mongolian regulatory agencies.

Abuses in Mongolia’s telecom and information technology sector are a particular concern. The state-owned telecom company, Mongol Telecom (MT) uses its regulatory and technical clout to forestall or attack competition. As the monopoly supplier of land-based lines through which much internet traffic flows, MT charges predatory rates for access to all other Internet Service Providers (ISPs) at a rate 10 times the charges assessed to the state-owned ISP. These per-minute charges add up and are hard for competitor ISPs to absorb. In addition, the Government, in an effort to make Mongol Telecom more attractive for privatization, is inclined to make MT the sole portal for all telecommunication into Mongolia. The apparent intent here is to require licenses for both telecommunication services and technology, which only MT could satisfy. There has been significant lobbying against this policy by ISPs, voice-over IP providers, cellular rights holders, multi-lateral organizations, and diplomatic missions as contrary to Mongolia’s own competition law and long-term interests. So far these efforts have delayed the passage of any damaging legislation.

Compounding these problems are the non-transparent activities of the Mongolian Information and Communication Technology Agency (ICTA), which is charged with providing policy guidance to the Communication Regulatory Commission of Mongolia (CRC). This agency routinely embarks on maneuvers that seem to have no basis in law or regulation but that have hurt American interests, not to mention those of other investors. For example, ICTA has attempted to order internet service providers to charge set access prices, without recourse to the market. Most recently this government intervention has taken the form of setting floor prices for hook up charges on wireless, voice over IP, etc., but without setting ceiling prices for charges. The three big cellular providers dominating the market favor this approach because it protects their oligopoly. However, competitors cannot offer similar services at a price that might undercut the market leaders, harming and limiting consumers’ rights to low cost communication alternatives.

ICTA has justified these acts by claiming that these low-cost providers would have offered services at such low prices that the oligopoly of Mongolian cellular providers would have been driven out business, thus depriving the state of the benefits of cellular service. In addition to helping an existing oligopoly, ICTA’s approach harks back to the Soviet era’s distrust of markets and consumers to make rational choices.

The state also interferes in the domestic aviation sector. Mongolia has three domestic service providers, the state-owned MIAT and the privately owned Aero Mongolia and EZNIS. Government regulation recommends maximum ticket prices that airlines may charge for all domestic routes, but the law does not strictly forbid airlines from charging fees higher than the state carrier. However, the Government frowns on domestic airlines that charge more for service. These state prices are well below operating costs and inhibit the private carriers from charging a break-even fee. However, the private carriers seem to have decided to shake off Government prohibitions and are charging rates that might yield profits and support safe and efficient flying arrangements.

In the past, MIAT’s domestic operations were heavily subsidized, primarily through its foreign routes, which limited investment opportunities in private domestic service, into which U.S. firms might sell aviation products and services. However, MIAT and the Government have failed to upgrade the domestic air fleet, letting it slowly wither until MIAT has only a single operating plane. This tacit policy seems to have opened the field for private investment into the aviation sector, resulting in the purchase of two planes from U.S.-based sources and several service and consulting contracts.

The Mongolian Judiciary and the Sanctity of Contracts:

We find no concerted, systematic, institutional abuse specifically targeted at foreign investment. In the case of the judiciary—corruption aside—most problems arise from ignorance of commercial principles rather than antipathy to foreign investment. In principle, both the law and the judiciary recognize the concept of sanctity of contracts. However, the practical application of this concept lags, with both foreign and domestic investors reporting inconsistent enforcement of contracts by the judiciary. This inconsistency comes from the slow transition from Marxist-based jurisprudence to more market oriented laws and judicial practices. Recent decisions in banking and land use cases in which contract provisions were upheld reflect a growing commercial sophistication among Mongolia’s judges. As more judges receive commercial training and as Soviet era (1921-1990) jurists retire, we expect to see the gradual improvement of the entire judicial system.

Privatization Policies and the Resistance of Mongolian firms to Foreign Investment:

Privatization policies have actually favored foreign investment in some key industries, including banking and cashmere production. The bidding processes for privatizations and other tenders have generally been transparent, and until recently most participants accepted the results. However, over the last year almost all privatizations (and many state procurement contracts) have been mired in legal controversies, with accusations of foul play by the losers. These disputes have caused delays in the final transfer of property to the winning bidders but not the cancellation of their respective rights. More disturbing, however, is that in the case of one bank privatization the new owners discovered that actual bank assets were substantially lower than Government documents had stated them to be, raising concerns about the will and ability of the Government to broker these sorts of transactions in good faith. The matter remains unsettled.

Foreign companies and investors are subject to the same legal regime imposed on Mongolian domestic firms regarding incorporation and corporate activities For example, casinos are illegal under Mongolian law, and so, neither Mongolians nor foreigners may own or operate them (except in one specifically designated free trade zone).

Generally, Mongolian private businesses want foreign participation in all sectors of the economy. They seek foreign partners and equity. That said, some Mongolian businesses use Mongolian institutions to stop competitors, if they can. These activities represent no animus against foreign investment as such; rather, they reflect individual businesses desire to keep competitors, Mongolian or foreign, at bay.

Key Investment Laws:

The Foreign Investment Law of Mongolia (FILM) transformed the anti-business environment of the Soviet era into today’s investor-friendly regime. Under the old system, everything not provided for in law was illegal. Because such economic activities as franchising, leasing, joint venture companies were not specifically mentioned in earlier Mongolian statutes, they were technically illegal. In 1993, the Government enacted FILM to legalize all manner of foreign investment in Mongolia (amended in 2002 to allow for representative offices and franchises). This law defines broad ranges of activity that would otherwise have limited validity under Mongolian law. It also defines the meaning of foreign investment under the civil code without limiting activities that foreign investors can conduct. FILM also establishes registration procedures for foreign companies. It creates a supervisory agency, the Foreign Investment and Foreign Trade Agency (FIFTA), that runs the registration process, liaises among businesses and the Mongolian government, and promotes in- and out-bound investments. We have found FIFTA a reasonably fair and efficient agency.

Conversion And Transfer Policies

The Mongolian government employs a limited regulatory regime for controlling foreign exchange for investment remittances and maintains exceptionally liberal policies for these transactions. Foreign and domestic businesses report no problems converting or transferring investment funds, profits and revenues, loan repayments, lease payments into whatever currency they wish to wherever they wish. There is no difficulty in obtaining foreign exchange, whether the investor wants Chinese Renminbi, Euros, English Pounds, Rubles, or U.S. Dollars.

The Mongolian government wants funds to flow easily in and out of the nation, with one exception. Foreign-held interest bearing dollar accounts remain subject to a 20% withholding tax. The bank retains 20% of all such interest payments sent abroad, and remits this withholding to the Tax Authority of Mongolia. Otherwise, businesses report no delays in remitting investment returns or receiving in-bound funds. Most transfers occur within 1-2 business days or at most a single business week.

Ease of transfer aside, foreign investors criticize Mongolia’s lack of sophisticated mechanisms for converting currencies and parking money. Letters of credit are difficult to obtain, and legal parallel markets do not exist in the form of government dollar denominated bonds or other instruments for parking funds in lieu of payment. Many Mongolian financial institutions lack experience with these arrangements. Moreover, Mongolian banking law currently provides no secure statutory grounds for the activity to take place. Banks may hesitate to use instruments that may be technically illegal under Mongolian law. The immediate impact has been to limit access to certain types of foreign capital, as international companies resist parking cash in Mongolian banks or in local debt instruments.

Expropriation And Compensation

Mongolia respects property rights as they apply to all types of asset categories. We detect no changes in policies, statutes, or regulations related to the use and ownership of private property. Foreigners face no legal bias in asset ownership (except that only citizens of Mongolian may own land) or how they structure ownership. Foreign investors need not seek local partners or share ownership of any asset or endeavor as a condition of doing business. However, in the crucial mining sector, with extensive foreign participation, we note governmental actions that might represent “creeping expropriation” coupled more broadly with some renewed “statist tendencies,” meaning gradual increases in government ownership of and participation in Mongolia’s economy.

Security of Ownership:

To date, the Government has not expropriated any American property or assets. Thus, we have no precedent from which to assess how the system would respond to seizure and compensation. The Mongolian government can claim land or leases in the national interest, as can most governments. Currently, this means little, as most land outside Mongolia’s urban centers remains government property, as provided in Mongolia’s constitution. The government has no plans to privatize these vast countryside holdings, but it leases parcels for such economic activities as mining, pasturage, timbering, etc. This practice remains in flux because the government must still determine how to let these rights and what fees to charge. Except for mining, foreign firms remain inactive in these sectors.

Since May 2003, land in the urban areas has been privatized to citizens of Mongolia or leased to both citizens and foreigners for periods ranging from 3-90 years. The legislation and implementing regulations are evolving, but so far investors believe that the Mongolians generally respect recently enacted property rights and leases.

Implications of the Newly Amended Minerals Law :

We closely watch the key mining sector, Mongolia’s major foreign exchange earner. The 2006 amendments to the Minerals Law have several provisions that raise red flags for us. The law does not allow the Government to usurp rights to explore and exploit natural mineral, metal, and hydrocarbons resources per se. Instead, the amended law imposes new procedural requirements and extends new powers to central, provincial, and local officials new powers that, if abused, might prevent mineral’s license holders from exercising their exploration or mining rights—in essence, denying the rights holder access to his rights without formally revoking them.

An example is the new tender process for apportioning some exploration rights. The old law awarded exploration rights on a "first come, first served" basis, a process that gave little discretion to government officials to intervene. The new law lays out a different procedure for obtaining exploration rights on land explored with state funds or lands where the current holder has forfeited exploration rights. The Mineral Resources and Petroleum Authority of Mongolia (MRPAM) will tender such exploration rights only to firms technically qualified to conduct minerals work. The new tender procedure neither requires nor allows for a cash-bid. Only the technical merits of exploration proposals will determine who gains exploration rights. MRPAM staff has the authority and responsibility to assess the merits of proposals to determine who wins the tenders.

Both MRPAM and its supervising authority, the Ministry of Industry and Trade, now have broad discretionary authority to select who will get tenements. This new authority disturbs miners, who fear this power will be the source of corruption and arbitrary decisions by MRPAM. Evidence suggests that local mining guilds will define an expert in Mongolian mining as a person who received a degree from a Mongolian institution, such as the National University, rather than an internationally recognized institution. While this enforced employment program for Mongolian geologists would be an annoyance, the discretionary power MRPAM now has is most worrisome. If MRPAM rejects a firm’s experts and mining plan as unqualified, no recourse is spelled out under the new law, and the firm will in effect lose its rights.

MRPAM is already interpreting its discretion over expertise broadly. MRPAM has told firms that it will "take into consideration" companies' past exploration activities when it comes time to transfer licenses from the 1997 format to the new law's license format. The new law sets out a procedure in which only the completeness of the application and the qualification of the company's technical staff determine if the license will be granted, extended, or transferred from the 97 format to new regime. Nothing in the new law provides regulatory or statutory justification for revoking current rights based on past behavior that was in accordance with the old law. This new procedure’s lack of specificity and lack of checks and balances seems to allow expropriation of miners’ rights.

The concept of “expertise” allows another potential avenue for expropriation of rights by denying or preventing their use. The law has the potential to limit the ability of rights holders to seek financing, because it forbids transfer of mining licenses and exploration rights to non-qualified individuals. Consequently, a miner will not be able to offer his licenses as secured collateral to banks or to any lender lacking the professional qualifications to receive these rights if the miner defaulted on his debt obligations. A given bank is unlikely to set up a "qualified" mining firm just to receive a pledged license offered as collateral. Thus, the law limits the investment pool that a mining firm might tap to finance its mine, which might prevent bringing a property into production, again denying licensees access to their legal economic rights.

The amended law removes the Mongol word for exclusive from the grant of exploration rights. The old article read, "To conduct exclusive exploration for minerals within the boundaries of an exploration area in accordance with this law." The new article reads, "To conduct exploration for minerals. . . ." It is unclear what, if anything, this deletion means. However, the deletion would seem to allow the government to apportion mineral rights per metal or mineral rather than as a whole, which has been the standard practice. The deletion was done intentionally, as the word appeared in earlier drafts, right up to the passage of the final bill.

We are also concerned about new authority granted to the MRPAM Chairman to approve transfers of existing and new licenses. The law grants final approval authority to the MRPAM, without specifying any check or balance on this official’s authority. This power is not a revocation but if abused would certainly prevent exercise of economic rights.

In late summer 2007, the Government revoked the exploration licenses of 18 firms on 34 sites without prior warning, consultation, or any internal review of the action. Mongolia has since pulled back from this action. In addition, Parliament continues to tinker with the concept of state equity in mining. Several Members of Parliament have submitted respectively bills that propose the state take back exploration and mining rights on strategic reserves, ban mining in all forest river basins, or claim a right to acquire over 51% on such reserves. Although none of these attempts to revoke or alter rights has come to pass, the apparent, continuous instability in the legal and regulatory environment over these rights has unsettled investors.

Acts of Provincial Administrations:

With regard to the issuance of mining permits, there is a disturbing trend for provincial officials to arbitrarily block access to legally granted mining rights. For example, some provincial government officials abuse their authority to designate land as special use zones to usurp mining exploration tenements. In a common technique, provincial governors often reclassify property that has never felt the touch of the plow or felt the tread of a tourist for agricultural use or cultural tourism respectively, although the central government has legally granted exploration rights to miners. In one case, a miner could not gain access to the subsurface resources because the provincial government claimed that doing so would damage a potato farm that had suddenly appeared over the site.

Other miners harshly criticize the misuse of the local officials’ rights to comment on permits for water use and mining licenses. Comments are advisory, and have limited legal force regarding disallowing activity, but the central government is loathe to reject a governor’s negative comment no matter the motives behind it. The effect has been to stop progress for months, limiting access to the resource and costing rights holders’ time and money.

Whatever the motives, these provincial actions are a creeping form of bureaucratic expropriation through denial of use. The newly amended law provides no clear limit on these powers or guidance on how to apply them beyond codifying that the provincial and local authorities have some authority over activities occurring in their provinces and soums (counties). Faced with these unclear boundaries of authority, the central government often interprets the rules and regulations differently from the provincial authorities, creating administrative conflicts among the various stakeholders. The central government acknowledges the problematic ambiguity but takes no steps to clarify the situation in law or practice, even though the situation threatens accessing one’s rights. Mongolian and foreign permit holders have advised the government that letting this problem fester raises perceptions among investors that they may risk losing their economic rights, which can scare away inbound investors.

Dispute Settlement

Mongolia consistently supports transparent, equitable dispute settlements, but executing good intentions has proven problematic. These problems come from ignorance of standard commercial practices rather than from any intent by public or private entities to target foreign investors. The framework of laws and procedures is functional, but many judges who adjudicate disputes remain ignorant of commercial principles.

Problems with Dispute Settlement in Mongolia’s Courts:

The court structure is straightforward and supports dispute settlement. Disputants know the procedures and the venues. Plaintiffs bring cases at the district court level before a district judge or judges depending on the complexity and importance of the case. The district court renders its verdict. Either party can appeal this decision to the Ulaanbaatar City Court, which rules on matters of fact as well as matters of law. It may uphold the verdict, send it back for reconsideration or nullify the judgment. Disputants may then take the case to the Mongolian Supreme Court for a final review.

Problems arise for several reasons. First, commercial law in Mongolia and understanding of it are in flux. New laws on contracts, investment, corporate structures, leasing, etc. have been passed or are being considered at both the ministerial and parliamentary levels. Mongolian civil law does not work on precedents but from application of the statute as written. If a law is vague or does not cover a particular commercial activity, the judge’s ability to adjudicate can be severely limited or non-existent. For example, leasing does not exist in the Mongolian civil law code as such, but would seem to be covered under various aspects of Mongolian civil law regarding contracts and other agreements. But judgments made under these laws may not apply to an arrangement not otherwise recognized under existing law. Further, because precedents are not legally relevant, decisions reached in one case have no legal force in other suits, even when the circumstances are similar.

Trained in the former Soviet era, many judges lack training or remain willfully ignorant of commercial principles. They dismiss such concepts as the sanctity of the contract. This is not a problem of the law, which recognizes contracts, but of faulty interpretation. In several cases courts have intentionally misinterpreted provisions regarding leases and loan contracts. Judges regularly ignore terms of a contract in their decisions. If someone defaults on a loan, the courts often order assets returned without requiring the debtor to compensate the creditor for any loss of value. Judges routinely assert that the creditor has recovered the asset, such as it is, and that is enough. Bad faith and loss of value simply do not enter into judicial calculations of what is equitable.

Replacing old-school judges is not an option. It is politically impossible—if not functionally impractical—for the Mongolians to dismiss this cadre of Soviet-era judges. There is a realistic hope that young justices, trained in modern commercial principles by American and German experts, will gradually improve judicial protections for commercial activities in Mongolia. Lately, we have seen better decisions in several cases involving Americans seeking to recover on debts and contractual fees and hold Mongolian government entities to the terms of their respective contracts, but these results tend to be limited to courts where better-educated, younger judges preside.

Bankruptcy and Debt Collection:

Mongolia’s bankruptcy provisions and procedures for securing the rights of creditors need serious reform. Mongolian law allows for mortgages and other loan instruments backed up with securitized collateral. However rudimentary systems for determining title and liens and for collecting on debts make lending on local security risky. Banks frequently complain that onerous foreclosure rules are barely workable and unfair to the creditor.

Although a system exists to register immovable property—structures and real estate—for the purpose of confirming ownership, the current system does not record if immovable property has any liens against it. In addition, no system exists to record ownership and liens of movable property. Consequently, Mongolian lenders face the added risk of lending on collateral that the debtor may not actually own or which may have already been offered as security for another debt.

Overall, the legal system does recognize the concept of collateralized assets provided as security for a loan, investment capital, or other debt-based financial mechanism. The legal system also provides for foreclosure, but this process has proved exceptionally onerous and time consuming. A 2005 change to Mongolian law simplified the process by allowing creditors to foreclose without judicial review. Prior to the new law, all creditors had to go to court to collect on securitized collateral, thus adding months to the entire collection process. However, the Constitutional Court of Mongolia voided the law on constitutional grounds, slowing down debt collection to pre-2005 levels. Waits of up to 24 months for final liquidations and settlement of security are not uncommon.

Once a judgment is rendered, the disputant faces a relatively hostile environment to execute the court’s decision. For example, a bank collecting on a debt in Mongolia must allow debtors to put forward assets for auction and set the minimum bid price for those assets. If assets do not sell, a second round of auctions occurs in which a reduced minimum bid is put forward. The State Collection Office (SCO) supervises this process but does not set the price. However, the SCO receives 10% of the sales price, or of the second auction minimum price even if there is no sale.

The SCO does not allow collateralized assets to be valued by neutral 3rd parties. Because it derives income from the forced sale of assets, the SCO has a conflict of interest; and, anecdotally, seems to have failed as an impartial arbiter between debtors and creditors. For banks, this has meant that forcing a company into bankruptcy may be the safest way to recover rather than forcing piecemeal sales of assets. This approach automatically puts all assets into play rather than those selected by the debtor. However, it is an onerous procedure without a clear process behind it.

Purchase financing is also tricky. For example, an American car dealer financed an auto for US$20,000 down and US$60,000, secured by a local bank guarantee. The buyer subsequently defaulted on the loan, the bank refused to honor its guarantee, and the dealer took the buyer to court. Under current Mongolian law, interest payments are suspended for the duration of the case, from first filing to final appeal before the Supreme Court of Mongolia. Possibly months of interest-free time can pass while the asset rusts in an impound lot. In this case, the dealer simply reclaimed the car and dropped the lawsuit, swallowing the lost interest payments and loss in value on the car. Domestic and foreign businesses respond by requiring customers to pay in cash, limiting sales and the expansion of the economy.

Binding Arbitration: International and Domestic:

The Mongolian government supports and will submit to both binding arbitration and international settlement procedures. However, glitches remain in local execution. Mongolia ratified the Washington Convention and joined the International Centre for Settlement of Investment Disputes in 1991. It also signed and ratified the New York Convention in 1994.

To our knowledge, the government of Mongolia has accepted international arbitration in three disputes where claimants have asserted the government reneged on a sovereign guarantee to indemnify them. In all cases the government has consistently declared that it would honor the arbitrators’ judgments. However, this resolution has not been put to the test, as Mongolia has won each case.

More widely, Mongolian businesses partnered with foreign investors accept international arbitration, as do government agencies that contract business with foreign investors, rather than avail themselves of the Arbitration Bureau operated by the Mongolian National Chamber of Commerce and Industry. They seek redress abroad because they perceive that domestic arbitrators are too politicized and self-interested to render a fair decision.

Although arbitration is widely accepted among business people and elements of the government, support for binding international arbitration has not penetrated local Mongolian agencies responsible for executing judgments. In two cases, the Mongolian-state-owned copper mine lost two international arbitral cases. The awards were certified and recognized as valid and enforceable by Mongolian courts. But the local bailiff’s office has consistently failed to execute the collection orders. Local business people routinely cite the failure of SCO and the bailiffs to enforce court-ordered foreclosures and judgments as the most common problem threatening resolution of debt-driven disputes.

Performance Requirements And Incentives

Mongolia imposes few performance requirements on, and offers few incentives to, investors. The few requirements imposed are not onerous and do not limit foreign participation in any sector of the economy. Performance requirements are applied somewhat differently to foreign investors in a limited number of sectors.

2006 Amendments to the Tax Law of Mongolia did away with tax incentives and exemptions. The Government seems willing to let current agreements run their course. Foreign investors have accepted phasing out of tax incentive provisions since the amendments bring other world-standard practices to the tax code. These include provision for loss-carry-forwards, 5-year accelerated deprecation, and more deductions for legitimate business expenses including but not limited to marketing and training expenses. (See A.1 for detailed discussion of the 2006 tax code amendments)

Few Restrictions on Foreign Investment:

The government applies the same geographical restrictions on both foreign and domestic investors. Existing restrictions involve border security, environmental concerns, or local use rights. There are no onerous or discriminatory visas, residence, or works permit requirements imposed on American investors. Generally, foreign investors need not use local goods and services, local equity, or engage in substitution of imports. Neither foreign nor domestic businesses need purchase from local sources or export a certain percentage of output, or have access to foreign exchange in relation to their exports.

Although there remains no formal law requiring the use of local goods and services, Mongolia encourages firms to do value-added production in country, especially for firms engaged in natural resource extraction. Certain senior officials and politicians have made in-country processing a consistent feature of their public and private policy statements regarding the development of mining. The 2006 windfall profits tax on copper and gold applies the tax to copper concentrate, but exempts copper cathode smelted in Mongolia. Recent negotiations on strategic copper deposits in the Gobi between the Government and private Western firms ended with formal commitments by the firms to smelt cathode copper in Mongolia. Government talks on coal production constantly feature discussions of power generation and coals to liquid processes in Mongolian. In our opinion, firms should continue to expect the Government to aggressively press them to produce valued added products in Mongolia, even if Mongolia passes no formal law or regulation to that effect.

Foreign investors set their own export targets without concern for government imposed targets or requirements. There is no requirement to transfer technology. As a matter of law, the government imposes no offset requirements for major procurements. Certain tenders may require bidders to agree to levels of local employment or to fund certain facilities as a condition of the tender, but as matter of course such conditions are not the normal approach of the government in its tendering and procurement policies.

All investors may finance as they see fit. Foreign investors need sell no shares to Mongolian nationals, unless they so choose. Equity stakes are generally at the complete discretion of investors, Mongolian or foreign. Investors, not the Mongolian government, make arrangements regarding technology, intellectual property, etc.

Regarding employment, investors can locate and hire workers without using hiring agencies—as long as hiring practices are consistent with Mongolian Labor Law. However, Mongolian law requires companies to employ Mongolian workers in certain labor categories whenever a Mongolian can perform the task as well as a foreigner. This law generally applies to unskilled labor categories and not areas where a high degree of technical expertise not existing in Mongolia is required. The law does provide an escape hatch for all employers. Should an employer seek to hire a non-Mongolian laborer and cannot obtain a waiver from the Ministry of Labor for that employee, the employer can pay a fee of around US$90 per employee per month. The Ministry of Labor seems quite eager to issue work permits for cash payments.

Limited Performance Requirements:

Performance requirements are sparingly imposed on investors in Mongolia with the exception of petroleum and mining exploration firms. The Mineral Resources and Petroleum Authority of Mongolia (MPPAM) issues petroleum exploration blocks to firms, which then agree to conduct exploration activities. The size and scope of these activities are agreed upon between MPPAM and the firm in writing and are binding. If the firm fails to fulfill exploration commitments, it must pay a penalty to MPPAM based on the amount of hectares in the exploration block, or give back the block to MPPAM. These procedures apply to all investors in the petroleum and natural gas exploration business.

The 2006 amendments to the Minerals Law of Mongolia have made receiving and keeping exploration contingent on conducting actual exploration work. Under the terms of the 1997 Minerals Law, mining firms holding exploration tenements or extraction licenses needed neither to explore nor mine so long as they paid annual fees associated with their holdings and provided annual reports of their activities to the government of Mongolia.

The amended law imposes more stringent work requirements. Each year and subject to annual verification by MRPAM, exploration firms must submit a work plan and report on the execution of the previous year’s performance commitments. Commitments are determined in terms of US dollar expenses per hectare per year:

2nd and 3rd years miners must spend no less than US $.50 per hectare on exploration

4th to 6th years miners must spend no less than US $1.00 per hectare on exploration

7th to 9th years miners must spend no less than US $1.50 per hectare on exploration

MRPAM will have the power and right to inspect the exploration sites to verify that work is being done. Failure to comply with work requirements may result in fines and (or) suspension or even revocation of exploration rights.

In addition to these performance requirements, the amendment law also requires holders of mining licenses of for projects of strategic importance to sell no less than 10% of its shares on the Mongolian Stock Exchange. Vaguely presented in the statute, what this new provision means in practical terms and how it is to be implemented has yet to be spelled out in regulation. (For more on the strategic deposits see Limitations on Participation in Real Estate, Petroleum Extraction, and Strategic Minerals Deposits)

All foreign investors must register with the Foreign Investment and Foreign trade Agency (FIFTA). FIFTA claims that the Foreign Investment Law of Mongolia requires all foreign investors to show a minimum of US$10,000 in assets registered in Mongolia as a precondition for registration. However, there is some dispute regarding whether the law or regulation sets a specific threshold. Thus, there may be room for negotiation with FIFTA on the precise amount of capital that must be registered. In addition to this particular requirement, all foreign investors must be an initial processing fee of some 12.000 Mongolian Tugriks or about US$10.50. Foreign Investors must then pay a yearly prolongation fee of 6.000 Mongolian Tugriks or about US$5.25.

In addition to these fees, foreign investors must annually report on their activities for the coming year to the government through the Foreign Investment and Foreign Trade Agency of Mongolia (FIFTA). Businesses need not fulfill plans set out in this report, but failure to report may result in non-issuance of licenses and registrations and suspension of activities. This requirement differs from that imposed on domestic investors and businesses. Local investors do not have a yearly reporting requirement. Mongolians pay lower registration fees, which vary too much to say with any precision what the fees actually are.

FIFTA explains that the higher registration costs for foreign investors arise from the need to compensate for the services it provides to foreign investors, including assistance with registrations, liaison services, trouble-shooting, etc. The different reporting requirements provide the government with a clearer picture of foreign investment in Mongolia. Foreign investors are generally aware of FIFTA’s arguments and largely accept them, but they question the need for annual registrations. Investors recommend that FIFTA simply charge an annual fee rather than require businesses to submit a new application each year.

Regarding reports, foreign businesses are concerned about the security of their proprietary information. Several foreign investors have claimed that agents of FIFTA routinely use or sell information on business plans and financial data. We have yet to verify these claims, but FIFTA acknowledges that data security largely depends on the honesty of its staff, as there is little internal control over access to the annual reports.

Tariffs:

Mongolia has one of Asia’s least restrictive tariff regimes. Its export and import policies do not harm or inhibit foreign investment. Low by world standards, tariffs of 5% on most products are applied across the board to all firms, albeit with some concerns about consistency of application and valuation. However, some non-tariff barriers, such as phyto-sanitary regulations, exist that limit both foreign and domestic competition in the fields of pharmaceutical imports and food imports and exports. The testing requirements for drugs are extremely unclear and tedious. When companies attempt to clarify what the rules for importing food or drugs into the country are, they receive contradictory information from multiple agencies. Our sense of the matter is that existing pharmaceutical and food import and export interests are abusing the current rules and regulations to limit all competition and investment.

WTO TRIMS Requirements:

Mongolia employs no measures inconsistent with WTO TRIMs requirements, nor has anyone alleged that any such violation has occurred.

Right To Private Ownership And Establishment

Mongolia has one of Asia’s most liberal ownership and establishment regimes. Unless otherwise forbidden by law, foreign and domestic businesses may establish and engage in any form of remunerative activity. All businesses can start up, buy, sell, merge; in short, do whatever they wish with their assets and firms.

Diminishing Competition from the State-Owned Sector:

Mongolia has passed and is implementing a competition statute that applies to all business entities active in Mongolia—foreign, domestic, and state-owned. As a practical matter, competition between state-owned and private businesses has been declining for the simple reason that most parastatals have been privatized. The exceptions are the state-owned power and telecom industries, an airline, the national rail system, several coal mines and a large copper mining and concentration facility.

Currently, only one private firm is actively seeking opportunities for power generation and none are active in the railway sector. Few want to enter the power generation field until the regulatory and statutory framework for private power generation firms up and tariffs are set at rates allowing profits. Mongolia has no plans to privatize its railroads

Although the trend has been for the Government to extract itself from ownership of firms and other commercial assets, the recent amendments to the Minerals Law of Mongolia may portend some movement back to state involvement. In the amendments, Mongolia gained the right to acquire equity stakes of up to 50% in certain deposits that it deems of strategic value for the nation. Once acquired, these assets are to be placed with a state-owned management company, Erdenes, that will invest them for the benefit of the Mongolian people. The role of state as an equity owner, in terms of management and operation of the mining asset, is unclear at this point. There is some concern that Mongolia will have to deal with conflicts of interest arising from its dual position as regulator and owner of these strategic assets. Specifically, firms are worried that Mongolia’s desire to maximize returns in order to provide a revenue stream to the Mongolian people may comprise the long term commercial viability of any mining project.

Protection Of Property Rights

The right to own private movable and immovable property is recognized under Mongolian law. Regardless of citizenship (except for land which only citizens of Mongolia can own), owners can do as they wish with their property. One can collateralize real and movable property. Should a debtor default on such secured loans, the creditor does have recourse under Mongolian law to recover the debt by seizing and disposing of property offered as security. The only exception to this liberal environment are recent changes to the mining law that prevent transfer of exploration and mining licenses to third non-expert parties without professional mining qualifications.

Mongolia’s Current Regime to Protect Creditors:

The current protection regime is functional but needs reform. The legal system presents the greatest pitfalls. Although the courts recognize property rights in concept, they have a checkered record of protecting and facilitating acquisition and disposition in practice. Part of the problem is ignorance of, and inexperience with, standard practices regarding land, leases, buildings, and mortgages. As noted in A.4 Dispute Settlement, some Soviet-trained judges, largely out of ignorance of the concepts, have simply refused to recognize these practices. New judges are making a good faith effort to uphold property rights, and need time to learn how to adjudicate such cases.

Mongolia’s bankruptcy provisions and procedures for securing the rights of creditors need serious reform. Mongolian law allows for mortgages and other loan instruments backed up with securitized collateral. However, rudimentary systems for determining title and liens and for collecting on debts make lending on local security risky. Banks frequently complain that onerous foreclosure rules are barely workable and unfair to the creditor.

Although a system exists to register immovable property—structures and real estate—for the purpose of confirming ownership, the current system does not record if immovable property has any liens against it. In addition, no system exists to record ownership and liens of movable property. Consequently, Mongolian lenders face the added risk of lending on collateral that the debtor may not actually own or which may have already been offered as security for another debt.

Overall the legal system does recognize the concept of collaterized assets provided as security for a loan, investment capital, or other debt-based financial mechanisms. The legal system also provides for foreclosure, but this process has proved exceptionally burdensome and time consuming. A recent change to Mongolian law (September 2005) had simplified the process by allowing creditors to foreclose without judicial review. Prior to the new law, all creditors had to go to court to collect on securitized collateral, thus adding months and expense to the entire collection process. However, the Constitutional Court of Mongolia voided the law on constitutional grounds, slowing down debt collection to pre 2005 levels where waits of up to 24 months for final liquidations and settlement of security were not uncommon.

Debt Collection Procedures:

However, even with the delays, getting a ruling is relatively easy compared to executing the court’s decision. The problem is not the law but the enforcement. A judge orders the State Collection Office (SCO) to move on the assets of the debtor. The SCO orders district bailiffs to seize and to turn those assets over to the state, which then distributes them to creditors. However, foreign and domestic investors claim that the state collection office and the district bailiffs frequently fail in their responsibilities to both the courts and the creditors.

In some cases, bailiffs refuse to enforce the court orders (see the Erdenet case mentioned above). The perception is that they do so because they have been bribed or otherwise suborned. Bailiffs are often local agents who fear local retribution against them and their interests if they collect in their localities. In some cases, bailiffs will not collect unless the creditor provides bodyguards during seizure of assets. Creditors also have reason to believe that the state collection office accepts payments from debtors to delay seizure of assets.

Protection of Intellectual Property Rights:

Mongolia supports intellectual property rights in general and has protected American rights in particular. It has joined the World Intellectual Property Organization (WIPO); signed and ratified most treaties and conventions, including the WTO TRIPS agreement. The WIPO Internet treaties have been signed but remained un-ratified by the State Great Hural, Mongolia’s Parliament. However, even if a convention is un-ratified, the Mongolian government and its intellectual property rights enforcer, the Intellectual Property Office of Mongolia (IPOM), make a good faith effort to honor these agreements.

Under TRIPS and Mongolian law, the Mongolian Customs Authority (MCA) and the Economic Crimes Unit of the National Police (ECU) also have an obligation to protect IPR. MCA can seize shipments at the border. The ECU has the exclusive power to conduct criminal investigations and bring criminal charges against IPR pirates. The IPOM has the administrative authority to investigate and seize fakes without court order. Of these three, only the IPOM makes a good faith effort to fulfill its mandates.

Part of the problem is ignorance of the importance of intellectual property to Mongolia and of the obligations imposed by TRIPS on member states. Customs has been particularly hesitant to seize shipments, saying that their statutory mandate does not allow seizure of such goods, but Mongolian statutory and constitutional law recognizes that international treaty obligations take precedence over local statues and regulations. A clear legal basis exists for Customs to act, which has been recognized by elements of the Mongolian Judiciary, the Parliament, and the IPOM. In any case, Customs officers seize fake products when it suits them. But it seems that Mongolian customs law will have to be brought into compliance with TRIPS before Customs will actively fulfill its obligations. The ECU has also been lax. The ECU hesitates to investigate and prosecute IPR cases, deferring to the IPOM as the lead agency. Anecdotal evidence suggests that ECU officials fear political repercussions from going after IPR pirates, many of whom enjoy political protection.

The IPOM generally has an excellent record of protecting American trademarks, copyrights, and patents. However, its small budget limits the scope of its actions. In most cases, when the U.S. Embassy in Ulaanbaatar conveys a complaint from a rights holder to the IPOM, the IPOM quickly investigates the complaint. If it judges that an abuse occurred, it will (and has in every case brought before it to date) seize the pirated products or remove faked trademarks, under administrative powers granted in Mongolian law.

We note two areas where enforcement lags. Legitimate software products are rare in Mongolia. Average low per capita incomes have given rise to a thriving local market for cheap, pirated software. The IPOM estimates pirated software constitutes 95% of the market. The Office enforces the law where it can but the scale of the problem dwarfs its capacity to deal with it. The IPOM will act if we bring cases to their attention.

Pirated optical media are also readily available and subject to spotty enforcement. Mongolians produce no fake CD’s, videos, and DVD’s, but import such products from China. Product is sold through numerous local outlets and sometimes broadcast on private local TV stations. The IPOM hesitates to move on TV stations, most of who are connected to and protected by major government or political figures. Nor does the IPOM raid local (“street”) DVD and CD outlets run by poor urban youth; IPOM argues that such action would not halt sales and only alienate the public. Again, when an American raises a specific complaint, the IPOM acts on the complaint, but IPOM rarely initiates action on its own.

2006 Amended Mining Law Restricts Transfer of Licenses in Certain Cases:

Recent amendments to the Minerals law of Mongolia would seem on their face to prevent transfer of exploration or mining rights to any third party lacking professional mining qualifications as determined by the Mineral Resources and Petroleum Authority of Mongolia (MRPAM).

Under the amended Minerals Law, the concept of mining expertise can either qualify or disqualify any entity from acquiring, transferring, securitizing exploration and mining rights. The law has the potential to limit the ability of rights holders to seek financing, because it forbids transfer of mining licenses and exploration rights to non-qualified individuals. Consequently, a miner will not be able to offer his licenses as secured collateral to banks or to any lender lacking the professional qualifications to receive these rights if the miner defaulted on his debt obligations.

At a stroke the law seems to limit the investment pool that a mining firm might tap to finance its mine, which might prevent bringing a property into production, again denying licensees access to their legal economic rights.

Transparency Of The Legislative And Regulatory Process

Generally, Mongolia’s problem is not lack of laws and regulations—Mongolia has passed over 1,500 laws since undertaking its transition to a market economy over 17 years ago—but a lack of knowledge on the part of the lawmakers on what is needed and an unwillingness to consult with affected communities. Corruption aside, the fact that laws and regulations change without much consultation creates a chaotic situation for all parties. Many laws and regulations, as well as behavior, still require amendment and adjustment; but, overall, the trend is positive. We have seen definite improvement in the mining sector and in the foreign investment statutes.

Problems with the Drafting Process for Legislation and Regulations:

The normal procedure for drafting laws and regulations is as follows. Laws are crafted in two ways. Once rare but now becoming more common, Members of Parliament and the President of Mongolia may draft their own proposals for direct submission to the Parliament. Such bills do not have to be submitted to the Cabinet of Ministers but can be put through the relevant Standing Committee for assessment. It is either passed on to the floor for a general vote or voted down in committee. More often, Parliament or the Cabinet of Ministers requests legislative action. These organizations send such requests to the relevant ministry. The Minister relays the request to the proper internal division or agency, which forms a working group. The working group prepares the bill, submits it for ministerial review, makes any recommended changes, and then the bill is reviewed by the full Cabinet of Ministers. This body recommends changes or passes the bill on to Parliament. In Parliament, the bill is reviewed by the relevant standing committee, sent back for changes or sent on to the full Parliament for a vote. The President can veto bills, but his veto can be over-come by a two-thirds (2/3) vote of Parliament.

For regulations, the process is truncated. The relevant minister assigns the task of writing the regulations to the working group that wrote the original law. This group submits their work to the minister who approves or recommends changes.

The Ministry of Justice and Home Affairs (MOJHA) plays an important part of the legislative and regulatory drafting process. MOJHA vets all laws and regulations before they are passed for final approval. In the case of legislation, MOJHA is supposed to reconcile the language and provisions of the law with both existing legislation and the constitution of Mongolia, after which the law is supposed to pass to the Cabinet and then Parliament. In the case of regulations, MOJHA vets the regulations to ensure consistency with current laws and provisions of the constitution. In either case, MOJHA can, in effect, veto legal or regulatory provisions that it finds inconsistent with the statutes and constitution.

Absent from these drafting processes is a statutory, systematic, transparent review of legislation or regulations by stakeholders and the public. Ministerial initiatives are not publicized until the draft has passed out of a given ministry to the full Cabinet. Typically, the full Cabinet discusses and passes bills on to Parliament, without public input or consultations. Parliament itself does not issue a formal calendar and does not announce or routinely open its standing committee or full chamber hearings to the public. While Parliament at the beginning of each session announces a list of bills to be considered during the session, this is very general and seldom accurate. New legislation is often introduced, discussed and passed without public announcement or consideration. It is possible for a bill or regulation to be drafted and passed without any public or stakeholder input. For example, in 2006, Parliament passed the Wind Fall Profits Tax Law bill in six days without consulting any business, NGO, or other entity about the impact and desirability of the bill. In another instance, Parliament significantly amended the Law on State Procurement all within thirty days without any public notification or comment regarding new limits competitive, transparent bidding practices and limits on access tender opportunities to foreign bidders.

The U.S. Embassy in Ulaanbaatar and members of the North America-Mongolia Business Council (NAMBC) have repeatedly urged the Mongolian government to utilize the government’s Open Government web site to post draft and pending legislation for public consultation and review before it is finalized and sent to Parliament. Over the past year, we have noticed some improvement in the timeliness and completeness of the postings.

To supplement this effort, the U.S. Embassy and local business organizations have jointly created an informal system to identify legislation and regulations under review. Once identified, we meet with working groups, provide information on how other nations have handled such legislation, share stakeholders’ points of view, and widely distribute draft bills, preferably before they reach a minister’s desk. Should a piece of vital legislation pass on to the Minister, Cabinet, or Parliament, these organizations are prepared to lobby at the appropriate level. Over the last three years we have found that many agencies and Members of Parliament welcome our advice and information, particularly if given in a non-confrontational way.

Regulators also resist consultation when it comes to implementation. Soviet-trained bureaucrats are only slowly becoming comfortable with the concepts and practices of broad, public consultation and information sharing with their own citizens, let alone foreigners. Many times businesses ask for a clear copy of the current regulations, only to be met with blank stares or outright refusals. The government has acknowledged that the Soviet-era State Secrets Law requires substantial amendment. Currently, most government documents—including administrative regulations affecting investments and business activities—are technically classified and cannot be released to the public. This gives both bureaucrats and regulators a convenient excuse to deny requests for information or, more commonly, to demand extra-legal fees to provide documents. The legacy of secrecy has also resulted in cases where government officials themselves cannot get up-to-date copies of the rules. Mongolia is considering a freedom of information law, but it is currently in its formative stages.

High officials acknowledge the value of and need for a more open, transparent system. While laws are easy to fix, the behavior of individual bureaucrats, members of parliament, and the judiciary will only gradually change, with training and experience. Already a younger generation of professionals, many trained abroad, is beginning to take hold and to move into senior positions of authority. This bodes well for Mongolia’s continuing transition to a private sector-led, open, market economy underpinned by good government and corporate governance.

The Role of NGOS and Private Sector Associations in relation to FDI:

The Mongolian government jealously guards its prerogatives to legislate, regulate, and administer economic activities in its domain. While NGOs and private sector associations are given wide latitude to run their activities, the government of Mongolia has never allowed any non-governmental entity—be it business, civil society, trade union, etc.—to have anything more than an advisory role over the formulation and execution of the both laws and rules, which also applies to setting standards for various industries. Based on recent experience, the Government routinely resists any expanded role for civil society and NGOs. This tacit but unarticulated policy of the Government of Mongolia applies to both domestic and foreign entities.

Laws, Regulations, and Policies that Impede FDI:

While Mongolia supports FDI and domestic investment, individual agencies and elements of the judiciary often use their respective powers to hinder investments into such sectors as meat production, telecommunications, aviation, or pharmaceuticals. Both domestic and foreign investors report similar abuses of inspections, permits, and licenses by Mongolian regulatory agencies. However, we have noted no consistent, systematic pattern of abuse aimed against foreign investors in general or against US investment in particular. The impediments more often than not are opportunistic attempts of regulators at all levels to extract extra-legal payments from both foreign and domestic businesses. The general approach is to demand some sort of payment in lieu of not enforcing work, environmental, tax, health and safety rules, otherwise imposing the full weight of a contradictory mix of Soviet Era and the current reformed rules on the firm. Most foreign businesses refuse to pay bribes, accept the punitive inspections, agree with some of the violations found, and contest the rest in the City Administrative Court. In our experience those companies that show resolve against such predatory abuse of statutory and regulatory power will face impediments at the start; but these ease over time as state agents look for easier targets.

Efficient Capital Markets And Portfolio Investment

Mongolia currently lacks experience and expertise to sustain portfolio investments. It has no regulatory apparatus for these activities, and both the state and private entities are just beginning to engage in them. However, Mongolia has active capital markets. The Mongolian government imposes few restraints on the flow of capital in any of its markets. Multilateral institutions, particularly the IMF, find the regime too loose, especially in the crucial banking sector. Although the government has clear rules about capital reserve requirements, the Mongol Bank, Mongolia’s central bank, seems loathe to restrain credit flows at many of its banks. That said, most foreign businesses approve of the ease with which they can access financial resources.

Capital and Equity Markets:

Although liquidity is quite high in Mongolia, affordable capital remains scarce. Local credit interest rates for customers range from 12% for the most credit worthy to perhaps 90% per annum (or more) for the least, with inflation hovering around 7% in 2006. Foreign investors can easily tap into the domestic capital markets. However, they seldom do, because they can do better abroad or better locally by simply taking on an equity investor, Mongolian or otherwise.

Mongolia’s stock market is moribund. Investors do not use stocks to raise equity for investment but to gain control of companies listed on the exchange. As most of the firms have been bought up, the market sees little trading.

Mongolian firms do not use shareholding relationships to restrict foreign investment at this point. Part of this arises from lack of experience with such devices. It also arises from the fact that Mongolians prefer to concentrate ownership in their own hands, rather than disperse it through complicated shareholding relationships. They perceive such devices as weakening their ability to control the companies, which is more important than safeguarding the firm from foreign or domestic raiders. If a foreign company wanted to purchase a Mongolian firm, the foreign entity would have to contact the shareholders and buy them out. These could not be hostile takeovers, because few outstanding shares remain on the market to buy. Eager to take on equity partners or sell businesses entirely, the Mongolians would employ few defenses beyond sharp negotiating.

The amended 2006 Minerals Law of Mongolia recently imposed a provision that requires that holders of mining licenses for projects of strategic importance must sell no less than 10% of the resulting entity’s shares on the Mongolian Stock Exchange. Vaguely presented in the statute, what this new provision means in practical terms and how it is to be implemented has yet to be spelled out in regulation.

The Banking Sector:

Weakness in Mongolia’s banking sector concerns all players, including the International Monetary Fund (IMF: http://www.imf.org ). Small by American standards, the total assets of the Mongolia’s seventeen (17) banks adds up to just over US$2 billion. The system has been through massive changes since the Soviet era, during which the banking system was divided into several different units. This early system failed through mismanagement and commercial naivety in the mid-90s, but over the last decade has become more sophisticated and better managed.

Mongolia has three generally well-regarded banks owned, primarily by Japanese, American, and Mongolian interests respectively. They follow international standards for prudent capital reserve requirements, have conservative lending policies, up-to-date banking technology, and are generally well managed. If a storm should descend on Mongolia’s banking sector, these banks are well-positioned to weather it.

However, concerns remain among these bankers about the effectiveness of Mongolia’s legal and regulatory environment. As with many issues in Mongolia, the problem is not of lack of laws or procedures but the will and capacity of the regulator, Mongol Bank, to supervise and execute mandated functions, particularly in regard to capital reserve requirements and non-performing loans.

Since 1999, Mongol Bank has consistently refused to close any private Mongolian bank for insolvency or malpractice. Industry observers think that that Mongol Bank will not shut any bank, fearing that closure sends a signal of weakness to the general public or because regulators within the Mongol Bank, as Mongolia’s central bank, have financial interests in the troubled banks that would be threatened by regulatory action. Rather than move against any one bank, the central bank has doubled capital reserve requirements. The first increase occurred in April 2002 from 2 to 4 billion Mongolian National Tugriks (MNT) or approximately US$3.3 million. The second occurred in April 2006, raising the minimum paid in capital from 4 to 8 billion MNT or about US$6.8 million. Mongol Bank has told the banking industry that it has no plans to raise the reserve requirements beyond 8 billion MNT.

Industry watchers had expected several banks to close or merge during the first round, but not one of the 17 banks shut its doors. The Central Bank did not examine the nature of the reserves; it only checked to see that the money designated as reserves was present during the April evaluation phase. No bank has closed following the second round. However, it seems that two small banks will merge with a larger, bringing the number of active banks to 15.

The non-performing loan (NPL) rate is equally troubling. No accurate figures exist. American and foreign bankers and the IMF believe that central bank’s methods for tracking NPLs seriously understate the rate. They perceive that all but three or four banks may be insolvent or nearly so.

Another concern about Mongolia’s capital markets is that large credit flows lay beyond regulatory control. Although banks are technically subject to regulatory restraint, unregulated non-bank-financial institutions (NBFI) have sprung up. NBFIs cannot engage in the full range of activities banks engage in, but also are not subject to the same reporting and reserve requirements as banks. These organizations act like “financial cooperatives,” taking deposits on interest from members and lending it. Industry insiders state that the NBFI-sector may be as large as the legitimate banking sector (US$2 billion). To attract deposits NBFIs pay higher interest rates than banks (returns of 40% per annum are not uncommon). NBFIs also obtain funds from legitimate banks at 30% + per month and loan this money out at rates exceeding 60% + per month. Most of these loans are to finance short-term consumer goods trade deals, especially in the highly volatile agricultural commodities sector. How capital flowing into the NBFIs is collaterized remains unclear; and so, Mongolia’s legitimate banks may have an immense exposure. In 2006, thirty (30) of these institutions did, in fact, declare bankruptcy as a consequence of poor lending practices. Official estimates conservatively put current losses at some US$60 million, but no one knows for sure. Hundreds of depositors, claiming to have lost their life savings, routinely picket Parliament, selected ministries, and political party headquarters demanding that Mongolia indemnify their losses, which the the Government has promised to do in part. In the meantime, the BOM has discontinued issuing charters for NBFI’s. It has also investigated current charter holders, revoking charters for those it claims have acted imprudently. However, there is no indication if these steps have ended or even slowed the bleeding of capital, and it remains unclear what impact a NBFI meltdown would have on the wider capital market in Mongolia.

Political Violence

Mongolia is peaceful and stable. Political violence is rare. Mongolia has held eight peaceful presidential and parliamentary elections in the past 15 years.

There have been no known incidents of anti-American sentiment or politically motivated damage to American projects or installations in at least the last decade. However, there has been a gradual and perceptible level of rising hostility to Chinese and, to a lesser extent, Russian nationals in Mongolia. This hostility has led to some instances of improper seizure of Chinese-invested property; and in more limited cases acts of physical violence against the persons and property of Chinese nationals resident in Mongolia. Other Asians living in Mongolia have expressed concern that they may inadvertently become victims of this hostility. In addition, one Western firm had to halt operations at its gold mine for two days in 2006 after the mine was invaded by protesters from a populist civil movement claiming the firm was stealing Mongolian resources.

Mongolia has an ethnically homogenous population: 97% of the population is Khalkh Mongol. The largest minority, numbering an estimated 90,000 people, is Kazakh (Muslim), concentrated in the far western part of the country.

Corruption

Foreign investors, the international donor community and many Mongolians believe corruption is a significant and growing problem in Mongolia. In a June 2006 World Bank survey, Mongolian business people found corruption to be the most cited impediment to doing business in Mongolia. (The report's executive summary can be found at www.worldbank.org/mn.) The United States Government’s (USG) first-hand experience with public sector corruption has included Cabinet-level officials directing donor funds to their personal accounts, refusing to account for donor funds, directing donor sub-contracts to close friends and relatives, and interfering with the court system when prosecution of such acts is initiated.

The USG has raised with the Mongolian Government its concerns about the corrosive impact of corruption on economic growth, good governance and public confidence in Mongolia’s political leadership. Mongolia’s government signed and ratified the United Nations Convention Against Corruption (UNCAC) in late 2005; in 2006, Parliament passed an anti-corruption law, and continues to amend Mongolia’s laws to bring them into compliance with the provisions of the Convention. The World Bank and the U.S. Departments of State and Justice, and U.S. Agency for International Development (USAID) are providing technical assistance and advice for this process.

In mid 2005, the USAID Mission to Mongolia, in collaboration with USAID/Washington and The Asia Foundation (TAF), funded a corruption assessment conducted by Casals & Associates, Inc. (C&A).(the complete report is available at http://www.usaid.gov/mn). The results of this assessment remain valid. Consistent with other quantitative and qualitative studies conducted previously, the study found that opportunities for corruption are increasing in Mongolia at both the “petty” or administrative and “grand” or elite levels. Both types of corruption should be of concern to Mongolians, but grand corruption should be considered a more serious one because it solidifies linkages between economic and political power that could negatively impact or ultimately derail democracy and development, as it has in other post-Communist countries. Several inter-related factors contribute to the growing corruption problem in Mongolia, the most significant of which are:

A profound blurring of the lines between the public and private sector brought about by endemic and systemic conflict of interest (COI) at nearly all levels;

A lack of transparency and access to information, stemming in part from an archaic and broad State Secrets Law, that surrounds many government functions and undermines nearly all aspects of accountability by contributing to an ineffective media and hindering citizen participation in policy discussions and government oversight;

An inadequate civil service system that gives rise to a highly politicized public administration and the existence of a “spoils system;”

Limited political will and leadership to actually implement required reforms in accordance with the law, complicated by conflicting and overlapping laws that further inhibit effective policy implementation;

Weak government control institutions, including the Central Bank, National Audit Office, Parliamentary standing committees, Prosecutor General, State Professional Inspection Agency, State Property Committee, and departments within the Ministry of Finance.

The aforementioned systemic shortcomings have allowed for an evolution of corruption in Mongolia that “follows the money,” meaning that graft on the most significant scales generally occurs most often in the industries and sectors where there is the most potential for financial gain. During the early 1990s, opportunities for increased corruption emerged during the transition toward democracy and market economy and process of reconnecting to the international community. Two areas that offered particular opportunities for grand scale corruption at that time were foreign donor assistance and privatization of state-owned enterprises. Later, as Mongolia embarked on further policy changes to install capitalistic practices, corruption reared its head in the process of privatizing public land. Now that most of the small amount of high-value land has been doled out and the overall economy is expanding, based in part on extractive industries, emerging areas for corruption include the banking and mining sectors. As in many developing countries, there also are several areas that provide stable and consistent opportunities for corruption, both grand and administrative in nature, such as procurement, customs, the justice sector, among high-level elected and appointed officials, and in the conduct a variety of day-to-day citizen- and business-to-government transactions, notably in education, health care, and city services.

Despite the fact that few of the conditions to prevent corruption from getting worse are in place, the situation has not reached the levels that are evident in many other countries with contexts and histories similar to that of Mongolia. Perhaps more importantly, there are a number of nascent and rudimentary efforts underway to actively combat corruption, including:

Government commitments to international anti-corruption regimes and protocols, such as the Anti-Corruption Plan of the Asian Development Bank/Organization of Economic Cooperation and Development (ADB/OECD) and the United Nations Convention Against Corruption (UNCAC);

Development of a National Program for Combating Corruption and formation of a National Council for coordinating the Program and a Parliamentary Anti-Corruption Working Group;

Passage of a new anti-corruption law that includes the formation of an independent anti-corruption body;

Short- and medium-term anti-corruption advocacy and “watchdog” programs initiated by civil society organizations, often with international donor support.

There is, in fact, time for Mongolians and the international community to nurture these efforts and take further action before the corruption problem gets out of hand. In general, the main need in Mongolia is for effective disincentives for corrupt behavior at both the administrative and political level. In its broadest configuration, this implies a strategy of increasing transparency and effective citizen oversight, as well as intra-governmental checks and balances. Without these major changes, administrative reforms may provide some small improvements, but they are unlikely to reverse current trends. Specifically, the report makes several strategic recommendations, including:

Diplomatic engagement focused on keeping anti-corruption issues on the policy agenda, promoting implementation of existing laws related to anti-corruption, and highlighting the need for further measures to promote transparency and improved donor coordination;

General programmatic recommendations to address conflict of interest, transparency/access to information, civil service reforms, and the independent anti-corruption body, with a definitive focus on engaging civil society and promoting public participation utilizing UNCAC as a framework;

Specific programmatic recommendations to address loci of corruption, such as citizen- and business-to-government transactions, procurement, privatization, customs, land use, mining, banking, the justice sector, and the political and economic elite

In addition, the reputable international anti-corruption NGO Transparency International (TI) included Mongolia (for the first time since 1999) in its annual “Perceptions of Corruption” survey of September 2004. Mongolia ranked 85 out of 145 countries and its score of 3 on the Corruption Perception Index was “poor.” (TI’s CPI Score relates to “perceptions” of the degree of corruption as seen by business people and country analysts and ranges between 10 (highly clean) and 0 (highly corrupt). TI’s 2005 Survey ranked Mongolia 85 out 158; and again Mongolia earned a “poor” score of 3. In TI’s 2006 survey, Mongolia had dropped to 99 out of 163 countries, being on par with Mali, Mozambique, and the Ukraine, receiving a score of 2.8—poor. (For more information, see: www.transparency.org.) Transparency International opened a national chapter in Mongolia in 2004. U.S. technical advisors are working with TI to train Mongolian staff to monitor corruption and to advocate on behalf of anti-corruption legislation and enforcement.

The U.S.’ Millennium Challenge Corporation (MCC: http://www.mca.gov/) uses the World Bank Institute’s Control of Corruption Governance Indicator to assess Mongolia’s eligibility for MCC funding (www.worldbank.org/wbi/). Mongolia’s performance and score on this Indicator has steadily declined since 2000. Worsening corruption could imperil Mongolia’s MCC eligibility which must be maintained throughout the preparation and implementation of any compact investment agreement. A compact is under preparation and signing is expected in 2007.

UNDP surveys of Mongolia, conducted in 1999 and again in 2002-3, also indicate a growing and serious entrenchment of bureaucratic and political corruption.

2006 Anti-Corruption Law:

In 2006, Parliament finally passed an Anti-Corruption Law (ACL), a significant milestone in Mongolia's efforts against corruption. The legislation had been under consideration since 1999.

The new ACL creates an independent investigative body, the Anti-Corruption Agency (ACA). The ACA will have four sections. The Prevention and Education Section will work to prevent corruption and educate the public on anti-corruption legal requirements. The Investigation Section will receive corruption cases and execute the investigation. The third section will be responsible for receiving government officials' property and income statements, checking and analyzing them. Over 4,000 government officials have submitted property and income statements, and the ACA will have to retain about 2,500 of them. The fourth section, the ACA's Secretariat, will handle administrative tasks.

We believe the ACL is an excellent start to honoring Mongolia’s anti-corruption commitments; however, as in all such efforts, implementation remains a concern.

U.S. Foreign Corrupt Practices Act (FCPA)

The U.S. Embassy in Ulaanbaatar reminds U.S. entities active in Mongolia that they and their agents are subject to the provisions of the FCPA. For information about the FCPA visit the U.S. Department of Justice web site at http://www.usdoj.gov/criminal/fraud/fcpa/.

Bilateral Investment Agreements

Total number of Bilateral Investment Agreements concluded by Mongolia, 1 June 2007 (Source: United Nations Conference on Trade and Development (UNCTAD: http://www.unctad.org )

Reporter

Partner

Date of Signature

Entry in to force

Mongolia

Austria

19-May-01

1-May-02

Belarus

28-May-01

1-Dec-01

Belgium/Luxembourg

3-Mar-92

15-Apr-04

Bulgaria

6-Jun-00

------------

China

25-Aug-91

1-Nov-93

Cuba

26-March-99

-----------

Czech Republic

13-Feb-98

5-Jul-99

Denmark

13-Mar-95

2-Apr-96

Egypt

27-Apr-04

25-Jan-05

France

8-Nov-91

22-Dec-93

Germany

26-Jun-91

23-Jun-96

Hungary

13-Sep-94

29-Aug-95

India

3-Jan-01

29-Apr-02

Indonesia

4-Mar-97

13-Apr-99

Israel

25-Nov-03

2-Sep-04

Italy

15-Jan-93

1-Sep-95

Japan

15-Feb-01

24-Mar-02

Kazakhstan

2-Dec-94

3-Mar-95

DPR of Korea

10-Nov-03

-----------

Republic of Korea

28-Mar-91

30-Apr-91

Kuwait

15-Mar-98

1-May-00

Kyrgyzstan

5-Dec-99

-----------

Lao People’s DR

3-Mar-94

29-Dec-94

Lithuania

27-Jun-03

3-May-04

Malaysia

27-Jul-95

14-Jan-96

Netherlands

9-Mar-95

1-Jun-96

Philippines

1-Sep-00

1-Nov-01

Poland

8-Nov-95

26-Mar-96

Romania

6-Nov-95

15-Aug-96

Russian Federation

29-Nov-95

------------

Singapore

24-Jul-95

14-Jan-96

Sweden

20-Oct-03

1-Jun-04

Switzerland

29-Jan-97

9-Sep-99

Turkey

16-Mar-98

22-May-00

Ukraine

5-Nov-92

5-Nov-92

UAE

21-Feb-01

-------------

United Kingdom

4-Oct-91

4-Oct-91

United States

6-Oct-94

4-Jan-97

Vietnam

17-Apr-00

13-Dec-01

Taxation issues of Concern to American Investors

Taxation remains an area of key concern for American, other foreign investors, and Mongolian domestic investors and businesses. 2006 saw major reforms of the Mongolian tax system, most of which, with the exception of the windfall profits tax on gold and copper, have been greeted positively by most foreign and domestic investor in Mongolia.

Windfall Profits Tax on Copper and Gold:

The Windfall Profits Tax Law of 2006 (WPT) is highly problematic piece of legislation that draws into question Mongolia’s commitment to creating an open, predictable, fair environment for foreign direct investment.

In a mere six days in May, the State Great Hural (SGH) passed a windfall profits tax (WPT) in an effort to assuage wide-spread public fears that Mongolia was being stripped of its mineral assets, and to increase revenues for new social spending on pensions and children.

The WPT imposes a 68% tax on the profits from gold and copper mining respectively. For gold, when the price hits US$500 per ounce, the tax is applied to the portion of sales proceeds exceeding that threshold; for copper, the threshold is US$2,600 per ton. Mining industry sources claim that the 68% tax rate, when combined with other Mongolian taxes, makes the effective tax 100% on all proceeds above the two threshold prices. In theory, the WPT proceeds are set aside in a special fund for a combination of social welfare expenditures and a reserve fund.

The speedy legislative process that birthed the WPT was unprecedented. The bill was passed without any consultation with all stakeholders on any its provisions. The entire process has raised concerns among investors about the stability and transparency or Mongolia’s legislative and regulatory environment.

Revisions of the Mongolian Tax Code:

Problems with the WPT aside, major reforms to the Mongolian Tax code in 2006 have greatly improved the business environment in Mongolia for both foreign and domestic investors. Before the reforms, a World Economic Forum survey of Mongolian business executives cited tax rates and the complexity of tax regulations as two of the top five problems for doing business in Mongolia. The tax reforms benefited from two years of technical assistance from USAID's Economic Policy Reform and Competitiveness Project (EPRC). The reforms affected the Personal Income Tax (PIT) and Corporate Income Tax (CIT) codes as well as the VAT and excise tax codes. (EPRC has a number of useful and informative guides on their website: http://www.eprc-chemonics.biz.)

The old corporate income tax system's lack of a loss carry-forward provisions as well as arbitrary caps on deductions for business expenses discouraged investment; businesses could easily end up owing tax, even if they lost money. The old law was so at variance with world norms that it was a prime reason why foreign investors sought tax holidays under stability agreements.

The new laws became effective January 1 (except the new excise tax law, which went into effect last July 1). In general, the new laws reduce tax rates, flatten the tax schedule, remove discriminatory loopholes and exemptions, and introduce appropriate deduction opportunities for corporate investment.

The new corporate income tax law allows firms to loss carry-forward for two years after incurring the loss, potentially encouraging investment and accommodating firms experiencing temporary negative shocks. While most businesses approve of this provision, many note that the two year carry forward limit is insufficient for projects with long development lead times, as is typical of most large-scale mining developments. The new law allows firms to deduct more types of legitimate business expenditures: training, business travel, cafeteria expenses, etc. The new law levels the playing field between foreign and domestic investors, eliminating the majority of discriminatory tax exemptions and holidays, most of which favored international investors.

Unfinished Business (Including Customs Rates):

There is unfinished business, however. Parliament is scheduled to take up additional tax reform measures in 2007. These include revisions to the law on customs and customs tariffs. While the exact natures of the proposed changes in the customs law have been murky, the Government states that changes will be consistent with Mongolia's WTO obligations and investment climate enhancement goals.

Institutional Impediments Remain a Concern:

Despite these solid, positive changes, international financial institutions warn that last year's legislative changes by themselves are insufficient to improve Mongolia's business environment. Reform efforts need to go beyond changes to the tax code to restructure the operations of the key agencies - the tax department, the customs administration and the inspections agency – that directly interact with private firms and individuals.

Specifically, tax authorities charged with enforcing the tax codes require a more customer-based approach to dealing with their business clientele and a more detailed and rigorously enforced regulatory framework under which to audit company accounts. Many foreign and domestic investors believe that the lack of such a clear, implementable code of ethics and enforceable set of guidelines leads to arbitrary, capricious, or predatory tax audits. We concur with this assessment, and will continue to work with the Mongolia, through USAID sponsored programs, to improve relations among institutions and their customers. We look for continued reforms through 2007.

OPIC And Other Investment Insurance Programs

Recently OPIC has become more active in Mongolia. OPIC has issued and plans to issue direct loans to American firms providing a variety of services in Mongolia. Loans and political risk insurance to American investors involved the banking, tourism, mining, and equipment sectors are in process. Because the amounts required are relatively small, OPIC seems willing to make direct loans rather than provide loan insurance to projects.

As of 2006, the U.S. Export-Import Bank (EXIM) also operates in Mongolia.

Mongolia is a member of the Multilateral Investment Guarantee Agency (MIGA).

Labor

The Mongolian labor pool is generally well educated, relatively young, and adaptable, but shortages exist in most professional categories requiring advanced degrees or training. Unskilled labor is available in sufficient amounts. Shortages exist in both vocational and professional categories because any Mongolian who obtains such skills almost invariably goes abroad to find higher wages. Why stay in Mongolia if one cannot recover the outlay on the training from a Mongolian-based job? Foreign invested companies are dealing with this situation by providing in-country training to their staffs, raising salaries to retain employees, or hiring expatriate workers to perform functions not available locally. There remains a deficit of trained skilled labor, which only time and investment will remedy.

Mongolian labor law is not particularly restrictive. Investors can locate and hire workers without using hiring agencies—as long as hiring practices are consistent with Mongolian Labor Law. However, Mongolian law requires companies to employ Mongolian workers in certain labor categories whenever a Mongolian can perform the task as well as a foreigner. This law generally applies to unskilled labor categories and not areas where a high degree of technical expertise nonexistent in Mongolia is required. The law does provide an escape hatch for all employers. Should an employer seek to hire a non-Mongolian laborer and cannot obtain a waiver from the Ministry of Labor for that employee, the employer can pay a fee of around 105,000 Mongolian Tugriks or US$90.00 per employee per month.

Foreign and domestic investors consistently argue that they bear too much of the social security costs for each domestic hire. Currently, businesses must pay a social security tax amounting to 19% of the annual wage on domestic hires, but not on foreign workers. Employees pay 10%, bringing the combined social insurance tax to 29%. This tax charge makes Mongolian skilled and unskilled labor more expensive than imported labor from China, even when factoring in the US$90.00 monthly work permit fee. Those active in construction sector who use much of this labor capacity note that a fairer distribution of these tax burdens would make Mongolian labor more competitive; and so, these contractors might be inclined to hire more domestic labor. Legislative proposals exist to reform the social insurance tax by reducing employer contributions to 10% of each employee’s wage; however, to date the Government has not changed the social insurance tax system (Another view of Mongolian labor: http://www-ilo-mirror.cornell.edu/public/english/region/asro/beijing/inmon.htm.)

Mongolia has ratified fifteen (15) ILO conventions:

C. 87

Freedom of Association and Protection of the Right to Organize Convention, 1948 (No. 87) 3.06.1969
C.100

Equal Remuneration Convention, 1951 (No. 100)

3.06.1969

C.105 Abolition of Forced Labor Convention, 1957 (No. 105)

15.03.2005
C.122 Employment Policy Convention, 1964 (No. 122) 24.11.1976
C.135 Workers' Representatives Convention, 1971 (No. 135) 8.10.1996
C.144 Tripartite Consultation (International Labor Standards) Convention, 1976 (No. 144) 10.08.1998
C.159 Vocational Rehabilitation and Employment (Disabled Persons) Convention, 1983 (No. 159) 3.02.1998

http://www.eprc-chemonics.biz/) made the following observations of Mongolia’s FTZ Program. In 2007, Post continues to share these concerns:

Benchmarking of Mongolia’s FTZ Program against current successful international practices shows deficiencies in the legal and regulatory framework as well as in the process being followed to establish FTZs in the country.

Lack of implementing regulations and procedural definitions encapsulated in transparency and predictability quotient required to implement key international best practices.

A process of due diligence, including a cost-benefit analysis, has not been completed for the proposed Zamyn-Uud FTZ.

Identifiable funding is not in place to meet off-site infrastructure requirements for Zamyn-Uud and Altanbulag sites.

Deviations from international best practices in the process of launching FTZs risks repeating mistakes made in other countries and may lead to “hidden costs” or the provision of subsidies that the government of Mongolia did not foresee or which will have to granted at the expense of other high priority needs.

Foreign Direct Investment Statistics

1. Comment on the data sources for foreign direct investment in Mongolia.

The Foreign Investment and Foreign Trade Agency (FIFTA) provides most of the data for tracking FDI in Mongolia. However, the data has severe limitations:

Inaccurate reporting and data collection: Many foreign firms provide inaccurate data to FIFTA on their annual investment amounts. FIFTA’s registration regime requires companies to document business plans and total FDI for the coming year. FIFTA uses their amounts to determine FDI for the year. However, many firms fear that their plans and information are not secure at FIFTA and provide incomplete data on their actual activities. Of course, Mongolia also suffers from promised investment that does not materialize or which comes in at a lower level than originally stated. FIFTA does not update reports to account for these or other changes to investments during the year. (See Performance Requirements and Incentives).

Data not Available: Because of questionable quality of our data sources and because neither FIFTA nor any other Mongolian agency to our knowledge tracks anything more than the aggregate totals of investment year by year, it is not currently possible to provide Mongolia’s direct investment abroad

2. FDI Statistics (Source Foreign Investment and Foreign Trade Agency of Mongolia)[i]

A. FDI in 2005

Table 1: FDI from 1990 to 2005

1990

1991

1992

1993

1994

1995

1996

1997

1998

1999

2000

2001

2002

2003

2004

2005

TOTAL

FDI (in millions US$)

1

2.1

1.9

3.4

24.7

35.9

53.7

43.2

45.9

86.7

90.3

125.3

172.5

205..4

237.1

311.7

1440.8

Number of companies

2

10

23

40

78

147

191

258

278

341

294

353

n/a

3042

3042

NA

NA

Table 3: GDP Growth from 2000 to 2005

2000

2001

2002

2003

2004

2005

GDP Growth in percent

1.1

1.0

4.0

5.6

10.6

6.2

Table 3: FDI inflow by major sectors in 2005

¹

Sector

Investment, in thousand USD

1

Geological prospecting, oil exploration and mining

191.071

2

Trade and catering service

53.930

3

Banking and financial services

9.671

4

Telecommunication

6.268

5

Agriculture

2.797

6

Light industry

1.840

7

Tourism

1.665

8

Community household service

1.354

9

Processing of animal originated raw materials

1.125

10

Engineering construction and production of building materials

775

11

Transportation

434

12

Production of foods and beverages

294

13

House ware production

194

14

Energy

100

15

Health and beauty services

56

16

Electric appliances manufacturing

31

17

Furniture production

22

18

Culture, education, science and press

13

19

Jewelry and gifts

20

Others

40.119

Total

311.7

Table 4: Summary of FDI Inflow in Mongolia by sectors up-to 2005 (cumulative value), in thousand US$

Sector

Total

%

Geological prospecting, mining and oil exploration

686,820

47,7

Trade and catering service

221,282

15,4

Light industry

86,846

6,0

Banking and financial services

76,807

5,3

Engineering construction and production of building materials

56,118

3,9

Processing of animal originated raw materials

54,673

3,8

Telecommunication

25,928

1,8

Transportation

21,425

1,5

Production of food and beverages

15,614

1,1

Tourism

14,738

1,0

Others

180,724

12,5

Total

1,440,975

100,0

Table 5: Mongolia: Selected Macro Economic Indicators, 2000-2005

2000

2001

2002

2003

2004

2005

Projected variables of macro economy

Increase of GDP /percentage/

Agriculture

Manufacturing

Service

GDP per person /by thousand

tugrigs/

GDP per person /by USD/

Consumer price index /by the end of year/

Total monetary change /M2/

Foreign exchange net resource /million USD/

Weekly /import/

Policy variables

Budget/billion tugrigs

Total income and relief rate

Current revenue

Total expenditure and net lending rate

Current expenditure

Current balance

Total balance

Budget. Percentage on GDP

Total revenue and relief tare

Current revenue

Total expectative and net lending rate

Current expenditure

Current balance

Total balance

External trade balance /million USD/

Percentage of GDP

Export

Increase, by percent

Import /balance rate/

Increase by percent

Basic variables

GDP by the price of the year /billion tugrigs/

Foreign currency rate at the end of the year /1 USD= tugrig/

Foreign currency rate by the first half of the year /1USD=tugrig/

Population /thousands of people/

Unemployment rate

GDP /million USD/

1.06

-15.90

0.30

15.26

426.22

395.97

8.10

17.57

140.70

10.82

351.00

346.21

429.65

314.12

32.09

-78.65

34.45

2000

33.98

42.17

30.83

3.15

-7.72

-140.14

-14.81

535.76

17.93

675.90

19.14

1018.89

1097.00

1076.40

2390.50

4.55

946.57

1.05

-18.35

15.47

6.11

460.06

419.11

8.00

27.90

160.12

12.01

439.29

429.95

489.87

366.84

63.11

-50.58

39.38

2001

38.54

43.91

32.88

5.66

-4.53

-169.96

-16.72

523.17

-2.35

693.13

2.55

1115.64

1102.00

1097.70

2425.00

4.62

1016.34

4.00

-12.44

3.76

11.63

504.59

454.46

1.60

42.00

225.90

15.60

477.05

469.75

550.48

415.31

54.44

-73.43

38.45

2002

37.86

44.37

33.47

4.39

-5.92

-228.90

-20.48

523.90

0.14

752.80

8.61

1240.79

1125.00

1110.30

2459.00

3.42

1117.52

5.57

4.85

4.85

6.15

586.89

511.89

4.70

49.61

129.00

8.37

553.89

545.23

615.77

434.83

110.40

-61.88

37.91

2003

37.31

42.14

29.76

7.56

-4.24

-185.15

-14.53

615.87

17.55

801.02

6.41

1461.17

1168.00

1146.50

2489.70

3.47

1274.46

10.72

17.69

14.97

6.34

758.71

640.10

11.00

20.43

163.61

8.33

697.38

690.48

713.84

525.88

164.60

-16.46

36.50

2004

36.13

37.36

27.52

8.61

-0.86

-151.50

-9.40

869.70

41.21

1021.20

27.49

1910.88

1209.00

1185.30

2518.00

3.60

1612.15

6.24

7.69

(0.93)

9.13

888.36

737.04

9.50

38.10

298.00

13.50

833.31

829.12

750.30

588.96

240.17

83.01

36.77

2005

36.58

33.10

25.99

10.60

3.66

-95.00

-5.05

1053.70

21.16

1148.70

12.49

2266.50

1221.00

1205.30

2551.34

3.50

1880.45

Table 6: 2005 Top 10 Investor-Countries(cumulative value in thousand US$

Country

Total

%

China

682,766

47,4

Canada

175,736

12,2

Republic of Korea

104,588

7,3

Japan

71,346

5,0

British Virgin islands

51,915

3,6

USA

51,217

3,6

Russia

45,944

3,2

UK

32,429

2,3

Bulgaria

30,778

2,1

Hong Kong (China)

25,818

1,8

Other Countries

168,439

11,7

Total

1,440,975

100,0

Table 7: Mongolia’s Balance of Foreign Trade 2000-2005

2000

2001

2002

2003

2004

2005

Exports

535.8

521.5

524.0

615.9

869,7

1064,9

Imports

614.5

637.7

690.8

801.0

1,021

1184,3

Turnover

1150,3

1159,2

1214,8

1416,9

1890,7

2249,2

Table 8: Exports by commodity group

Commodity groups

2002

I-XII

2003

I-XII

2004

2005

I-XII

XII

I-XII

XII

Total

523 963.3

615 867.2

869 661.4

153 413.9

1053 691.7

155 404.7

Live animals, animals origin products

28 864.2

22 505.4

18 354.9

5 064.0

19 087.7

3 459.3

Mineral products

173 371.7

214 583.4

353 738.5

40 730.8

449 949.1

53 018.4

Wood & wooden articles

213.6

528.1

1 187.3

220.2

1 099.5

142.4

Articles of stone, plaster, cement, asbestos, glass & glassware

20.5

44.6

11.7

4.1

13.0

0.4

Machinery, equipment electric appliances, recorders, TV sets & spare parts

1 671.0

3 382.9

1 650.8

147.1

3 087.1

836.4

Auto, air & water transport vehicles & their spare parts

692.8 2 4

153.0

1 495.7

49.4

670.7

2 008.2

Optical, photographic, cinema to graphic, measuring control, medical, surgical & musical instruments, watches

128.6

48.0

68.7

0.7

69.5

34.5

Various industrial goods

477.3

467.3

555.5

58.9

1 188.0

55.1

Other

21.1

1 122.7

20.4

1.5

177.0

15.2

B. FDI in 2004

Table 1: 2004 FDI by Sector

Sector

Number of companies / countries

Average investment per company (in thousands US$)

Percentage in total FDI

Geological prospecting and exploration

235 / 31

. 2.000

46%

Banking and financial services

n/a

n/a

0.06%

Trade and catering service

n/a

180

13%

Engineering construction and production of building materials

n/a

n/a

0.07%

Light industry

n/a

524.

8%

Processing of animal originated raw materials

n/a

342

7%

Others

0.12%

Table 2: Top Investors of 2004 by National Origin

Country

Investment (in thousands US$)

Number of investors

Investment by sectors (in millions US$)

Percentage in total FDI

China

Geology & mining (153.8 or 130.0)[ii];trade/ catering (92.5);Engineering construction; Construction materials (30.0);light industry China (22.9);China (Hong Kong) (8.0);China (Taiwan) (7.0)

37.9%

Canada

23

Geology & mining (120.0 or 132.0??? by 17 companies)

13.2%

USA

n/a

Geology, mining & oil (94.3 or 115.0???)

Processing of animal-origin raw materials (6.9);Light industry (4.0); Construction & construction materials (2.6)

11.4%

South Korea

n/a

Geology-mining (12.8);Light industry (6.7);

Transportation (5.6);Telecomm (5.3)

8.1%

Japan

n/a

Light industry (28.0);Telecomm (8.0); Trade/catering services (3.1)

Processing animal materials (1.8)

6%

Russia

n/a

Geology & mining (7.8);Construction and materials (5.2);Banking & financial services (4.0) ;Food industry (3.1)

3.3%

Other

20.1%

Table 3: 2004 FDI by Sector(in thousands US$)

No

Sector

1999

2000

2001

2002

2003

2004

%

Total

Geological prospecting and exploration

24,995

16.842

56.937

38.476

150.232

147623.2

38.4

335.213

Trade & public catering

5.124

5.545

5.154

89.543

6.915

37472.16

14.7

128.466

Light industry

19.175

27.147

4.933

2.885

4.708

21009.2

9.5

83.338

Processing of animal originated raw materials

8.297

11.559

6.260

296

408

3375.835

5.8

50.267

Engineering construction and production of building materials

5.695

8.135

8.149

5.985

2.390

3040.042

5.7

49.502

Banking and financial services

2.179

701

19.713

4.002

125

2452.553

3.6

31.467

Transport

3.739

6.367

582

1.154

2.284

1815.304

2.4

20.957

Telecommunications

3.078

75

160

442

4.091

1184.6

2.4

20.924

Culture, education , science & media

2.664

5.208

138

3.430

2.391

929.4

2.0

17.540

Food industry

2.170

1.310

351

2.996

736

444.863

1.6

14.387

Tourism

213

304

97

719

826

434.5

1.3

11.424

Agriculture, cultivation, animal husbandry

3.315

253

825

346

86

251.321

1.1

9.510

Energy

50

1.852

1.113

197

257

204.75

0.6

5.269

Furniture, wooden items

932

667

1.094

888

519

90.5

0.6

5.146

Health & beauty service

1.411

505

83

184

480

56.75

0.6

4.825

Public service

338

466

76

31

26

36.8

0.3

2.208

Electric appliances production

383

27

5

10

186

25

0.2

1.600

Jewelry, gift

8

34

68

20

0.2

1.364

Household items production

180

46

60

147

355

17

0.2

1.325

Other

2.929

6.692

16.997

23.090

19.742

16522.7

9.0

78.790

86.865

93.707

122.761

174.820

196.821

237.007

873.522

Oil sector

6.140

10.660

7.480

7.700

6.993

6.993

126.863

Total

93.005

104.367

130.241

182.520

203.814

244.000

100.0

1.000.385

Table 4:

2004 FDI by Country (in thousands US$)

No

Country

Immovable property

Equipment

Cash money

Other

Total

1

China

68

69.383

56.326

247

126.024

2

Canada

0

0

51.455

0

51.455

3

British Virgin Island

0

11

16.517

0

16.528

4

Great Britain

0

6.210

1.245

0

7.455

5

Israel

0

7.155

23

0

7.178

6

South Korea

209

1.221

4.980

97

6.507

7

Japan

0

29

5.403

0

5.431

8

USA

78

1.018

2.137

0

3.233

9

Hong Kong SAR

0

1.031

2.096

0

3.127

10

Belgium

0

0

2.259

0

2.259

11

Russia

0

984

803

471

2.258

12

Bahamian

0

1.000

270

0

1.270

13

Australia

0

0

728

0

728

14

Antigua & Barbuda

0

0

653

0

653

15

Malaysia

0

0

500

0

500

16

Kyrgyzstan

0

0

10

469

479

17

Germany

0

187

231

1

420

18

Czech Republic

0

225

10

0

235

19

Vietnam

0

0

218

0

218

20

Kazakhstan

0

204

0

0

204

21

Pakistan

0

0

133

0

133

22

China (Taiwan)

0

85

42

0

127

23

India

0

0

65

0

65

24

North Korea

0

0

63

0

63

25

Singapore

0

0

60

0

60

26

Ukraine

0

0

57

0

57

27

Greece

0

0

44

0

44

28

Italy

0

0

32

0

32

29

Turkey

0

0

28

0

28

No

Country

Immovable property

Equipment

Cash money

Other

Total

30

France

0

0

25

0

25

31

Syria

0

0

22

0

22

32

Bermuda

0

0

21

0

21

33

Netherlands

0

0

20

0

20

34

Austria

0

0

19

0

19

35

Poland

0

3

13

0

17

36

Serbia Montenegro

0

0

15

0

15

37

Swiss land

0

0

15

0

15

38

Liberia

0

0

14

0

14

39

New Zealand

0

0

13

0

13

40

Saudi Arabia

0

0

10

0

10

41

Finland

0

0

10

0

10

42

Ethiopia

0

0

10

0

10

43

Caiman Islands

0

0

7

0

7

44

Nigeria

0

0

5

0

5

45

Estonia

0

0

5

0

5

46

Nevis island

0

0

5

0

5

47

Thailand

0

0

3

0

3

48

Bulgaria

0

0

2

0

2

TOTAL

355

88.746

146.620

1.285

237.007




[i] Data comes from an article “Foreign Direct Investment in Mongolia 2003-2004” written by B.Otgondorj, economist of the Bank of Mongolia available at: http://www.mongolbank.mn/Mongolian/Research/Bulletin10/bulletin10.htm. Mongol Bank obtained its data from the Foreign Investment and Foreign Trade Agency of Mongolia.

[ii] The research bulletin gives different numbers for China, Canada &USA on FDI in mining sector.


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