## MONGOLIA FOURTH REVIEW UNDER THE EXTENDED FUND FACILITY ARRANGEMENT AND REQUEST FOR MODIFICATION OF PERFORMANCE CRITERIA

## Source details

**Canonical URL:** [MONGOLIA FOURTH REVIEW UNDER THE EXTENDED FUND FACILITY ARRANGEMENT AND REQUEST FOR MODIFICATION OF PERFORMANCE CRITERIA](https://www.imf.org/-/media/files/publications/cr/2018/cr18204.pdf)

## Other formats

- [Markdown version](/-/media/files/publications/cr/2018/cr18204.pdf.md)
- [Structured JSON version](/-/media/files/publications/cr/2018/cr18204.pdf.json)

---

### Executive Summary
- Arrangement approved May 24, 2017: SDR 314.5054 million (435 percent of quota, or about $425 million).
- Arrangement part of a $5.5 billion multi-donor financing package supporting the Economic Recovery Program.
- Recent outturns:
  - Growth: 5.1 percent in 2017; 6.1 percent y.o.y. in Q1 2018.
  - Fiscal: 2.1 percent of GDP primary surplus in Q1 2018.
  - Program performance: All end-March 2018 quantitative targets under the program were met.
- Structural reforms: Progress made with some delays; two tax administration laws submitted (originally due last February); amendments to the Bank of Mongolia law passed; Recapitalization Law planned; NPL resolution strategy approval and publication in progress but not complete.
- Policy priorities emphasized by Acting Chair Mr. Tao Zhang:
  - Continue building fiscal and foreign exchange buffers.
  - Strengthen the banking sector and follow up on the Asset Quality Review (AQR).
  - Improve the investment climate and steadfastly implement the reform program to build resilience and ensure strong and inclusive growth.

### Recent Developments
- Growth and sectoral drivers:
  - Real GDP grew 5.1 percent in 2017 (up from 1.2 percent in 2016).
  - Q1 2018 growth 6.1 percent y.o.y., driven by strong construction output.
- External sector and reserves:
  - Current account deficit rose to over 10 percent of GDP in 2017 (from 4 percent in 2015).
  - Reserves rose by $1.7 billion (15 percent of GDP) over 2017 but reserve accumulation slowed recently due to acceleration in consumer- and investment-related imports, decline in scheduled donor flows, temporary border bottlenecks for coal exports, and portfolio outflows related to maturities on public debt.
- Fiscal developments:
  - Primary balance in 2017 improved by 15 percentage points to a surplus of 2 percent of GDP; two-thirds of the adjustment due to expenditure contraction from excessive 2016 levels.
  - Revenues rose (boom in commodity exports and mining-related imports).
  - Q1 2018 primary surplus 2.1 percent of GDP, with a 23 percent y.o.y. rise in revenues and large loan repayments to the Development Bank of Mongolia (DBM).
- Inflation and monetary policy:
  - Inflation rose to 7.2 percent in 2017 (from less than one percent in 2016) due to CPI basket changes, higher tax rates, higher imported fuel prices, and demand recovery.
  - Inflation moderated in the first 4 months of 2018 and remained below the 8 percent target.
  - Bank of Mongolia cut the policy rate by 100 basis points in March 2018; cumulative cuts of 500 basis points, reversing the 2016 emergency hike.
- Financial sector and AQR:
  - AQR identified capital shortfall as of Q3 2017: 1.9 percent of GDP.
  - BOM analyzed banks’ business plans and updated AQR results; final capital shortfalls communicated in May 2018 and must be met by end-December 2018.
  - Banks must formally book the provisioning gap identified by the AQR by end-June (prior action for this review).
  - Parliament will pass a Recapitalization Law outlining when/how public funds can be used to support systemic banks (prior action for this review).
  - Credit growth rose from 7 percent in 2016 to 11 percent in 2017 despite average nominal interest rates of 17 percent.

### Outlook and Risks
- Near-term outlook:
  - Staff project growth to remain at 5 percent in 2018.
  - Output gap in the non-mining sector expected to be slightly positive in 2018.
  - Inflation expected to remain around 8 percent.
  - Gross international reserves expected to remain broadly unchanged due to delays in donor loans and strong import growth.
- Medium-term outlook:
  - Growth path anchored by continued OT-related investments and projects related to the Tavan Tolgoi (TT) coal mine; second phase of OT copper mine starting production in 2021-22.
  - Public debt projections:
    - Public debt about 71 percent of GDP in 2020 (vs. 97 percent projected in the original EFF).
    - Public debt returning to 2015 levels of 55 percent by 2023.
  - Reserves projection: $4.7 billion, or 7 months of imports by 2020 (vs. $4 billion projected in the original EFF).
- Key downside risks:
  - Political pressure prompting premature easing of monetary and fiscal policies, slowing structural reforms, or altering the investment climate (risking OT and other growth drivers).
  - Mining sector developments: fall in prices from weaker Chinese or global demand; renewed border bottlenecks affecting coal exports; or changes in China’s environmental policy reducing coal imports.
  - AQR follow-up challenges: liquidity pressures or banks unable to raise needed capital by end-December could undermine financial stability or slow recovery.

### Program Discussions — Fiscal Policy
- Revenue and fiscal stance:
  - Q1 outturn suggests revenues likely to exceed previous estimates; authorities intend to save all revenue over-performance (up from earlier commitment to save half).
  - Fiscal target tightened to -1 percent of GDP (from -1.6 percent at last review and -2.6 percent in the 2018 budget passed by parliament); future program targets unchanged.
  - Tighter stance relative to debt-stabilizing primary balance of -5 percent; public debt at 85 percent of GDP.
- Capital spending risks:
  - Commitments on concessional foreign-financed capital spending have exceeded budget ceilings by an estimated 2.2 percent of GDP.
  - Authorities committed to offsetting measures (prioritization of other capital spending or lower non-essential current spending) to meet the agreed deficit target and to strengthen public financial management.
- Budget structure reforms and key items:
  - Fuel price and tax:
    - Retail price of the most widely-used gasoline currently fixed; authorities committed to moving away from fixed retail price by start of 2019.
    - Plan to adopt a formula to (i) ensure sufficient corporate profits to prevent shortages, (ii) increase consumer price flexibility, and (iii) gradually re-introduce an excise tax to reach a target level over a three-year period (end-December structural benchmark).
  - Social spending:
    - Social assistance spending over 2 percent of GDP and protected under the program.
    - Child Money assistance: original plan to target poorest 40 percent; authorities reduced coverage to poorest 80 percent and reversed much of planned increases in targeted programs.
    - If universal coverage is pursued, the budget should address inequality through measures such as progressive income taxation.
  - Infrastructure concessions:
    - Unpaid fiscal commitments from “build-transfer agreements” total roughly 5 percent of GDP.
    - Authorities auditing completed concessions; obligations to be included in the 2019 budget and next Medium-Term Budget Framework (end-August structural benchmark).
    - No new build-transfer agreements signed since early 2017; authorities confirm the practice is forbidden.
  - Mortgage program:
    - 2013–2016 surge in subsidized mortgages financed by Bank of Mongolia accounted for 80 percent of outstanding mortgages.
    - Since 2016, Ministry of Finance solely responsible for net new subsidized mortgage lending; aggregate size of subsidy limited to 0.4 percent of GDP per year.
    - Memorandum of Understanding (late 2017) commits to transfer the stock of subsidized mortgages on the BOM balance sheet to the government.
  - Development Bank of Mongolia (DBM):
    - Pre-program DBM net lending about 3 percent of GDP per year as off-budget fiscal spending.
    - Program expanded fiscal coverage to include DBM net lending; DBM had net repayments of 0.5 percent of GDP in 2017.
    - Audit of DBM activities since 2012 approved by DBM board; expected completion by mid-November 2018.

### Program Discussions — Monetary and Exchange Rate Policy
- Policy stance:
  - Authorities committed to remain vigilant against inflation and to support further accumulation of reserves.
  - BoM cut policy rate by 100 basis points in March 2018; cumulative cuts of 500 basis points since the 2016 emergency hike.
- Inflation outlook:
  - Inflation expected to remain around 8 percent in 2018 reflecting cessation of one-off domestic factors.
- Policy recommendation:
  - Keep monetary policy on hold and stand ready to hike if inflation surprises negatively or the balance of payments fail to strengthen.
  - Tighten macroprudential measures in coming months (mainly aimed at financial stability) which may also help tighten the stance and reduce domestic absorption.

### Program Discussions — Financial Sector Policy
- AQR and recapitalization:
  - AQR completed; identified capital shortfall as of Q3 2017: 1.9 percent of GDP.
  - Final capital shortfalls communicated to banks in May 2018; to be met by end-December 2018.
  - Banks required to formally book the provisioning gap identified by the AQR by end-June (prior action).
  - Parliament to pass Recapitalization Law specifying when/how public funds can be used to support systemic banks (prior action).
- Banking sector developments and contingencies:
  - Banks in process of raising capital to address identified shortfalls.
  - Bank lending accelerated: credit growth rose from 7 percent in 2016 to 11 percent in 2017 despite average nominal interest rates of 17 percent.
  - If any bank is unable to raise needed capital by end-December, authorities have powers to intervene (end January-2019 structural benchmark).
  - For systemic banks unable to meet shortfalls with private capital, Recapitalization Law permits injection of public funds under strict conditions; for non-systemic institutions BOM can use revised banking and DICOM laws to resolve the bank and protect depositors.
  - BoM will order banks not to pay dividends, coupon or principal of Tier 2 instruments, and bonuses to management until banks have reached a Tier 1 capital ratio of 11%.

### NPL Resolution, Prudential Regulation, and AML/CFT
- NPL strategy and legal reforms:
  - Drafting and publication of a detailed NPL resolution strategy delayed (originally end-May structural benchmark) and will be completed in coming months.
  - Implementation measures expected to start in the Fall, including collateral enforcement reforms (end-November structural benchmark), reformed corporate bankruptcy law (end-March 2019 structural benchmark), taxation and judicial process reforms (end-April 2019 structural benchmark), and real estate data (end-April 2019 structural benchmark).
  - Decision on AMC: authorities have decided not to proceed with a public AMC; if pursued, Mongolian public stake limited to a small minority stake (no greater than 20 percent) and no public entity will lend or issue guarantees to the AMC.
- Prudential regulation enhancements:
  - Adopt new prudential regulations by revising risk weights, introducing a definition of capital and capital buffers aligned with international standards, and detailing criteria for restricting dividend and coupon payments when needed (end-December structural benchmark).
- Macro-prudential measures on household lending:
  - More than 40 percent of household loans now have debt service-to-income ratios above 60 percent.
  - Authorities aim to introduce a limit on the debt service to income ratio on new household lending in coming months (end-September structural benchmark).
  - Initial ceiling on debt service-to-income ratio for new consumer loans: 70 percent.
- AML/CFT progress and risks:
  - 2017 APG assessment found deficiencies; April amendments to the AML/CFT law and the Law on Infringements addressed some deficiencies.
  - Critical next steps: demonstrate implementation of AML/CFT regulations and targeted financial sanctions; step up risk-based supervision.
  - The Financial Action Task Force may consider Mongolia’s status (potential “grey listing”) in June and the APG will assess progress in July.

### Program Modalities, Performance, and Financing
- Quantitative and structural performance:
  - Authorities met all quantitative performance criteria (QPCs) for end-March.
  - Two tax administration laws submitted (originally due last February).
  - Since end-March to end-May, authorities passed amendments to the Bank of Mongolia law and will pass a Recapitalization Law; approval and publication of the NPL resolution strategy delayed.
- Revisions and benchmarks:
  - For 2018, the primary balance was tightened to reflect revenue over-performance and the end-year NIR target revised downward, primarily to reflect delays in donor funding.
  - New structural benchmarks added in fiscal policy (fuel price mechanisms and taxation, tax administration compliance) and banking (booking AQR results, new macro-prudential limit on household lending, and measures to strengthen NPL resolution).
- Financing and reserves:
  - Program remains fully financed despite envisioned delays in donor funding.
  - Program has overperformed on public debt and reserves goals.
  - Public debt at end-2017 was ten percentage points of GDP lower than originally projected and this over-performance is expected to become 20 percentage points by end-year.
  - NIR as of end-March 2018 was $1.5 billion higher than the initial targets but the margin will moderate somewhat by year end due to delays in donor funding.

### Staff Appraisal — Key Challenges and Priorities
- Achievements:
  - Authorities have successfully averted a debt crisis; macroeconomic outcomes have exceeded expectations driven by strong external demand combined with expenditure restraint.
  - Fiscal and reserve targets under the program met with considerable margins.
- Remaining challenges and priorities:
  - Continue fiscal discipline while improving budget structure as 2020 elections near and spending pressures rise.
  - Public debt still high at around 85 percent of GDP; crucial to maintain commitment to the program.
  - Priorities: continued expenditure restraint, strengthening tax administration, protecting social spending, and improving public financial management (concessions, public investment, operations of the DBM).
  - Maintain policies to support buildup of international reserves; gross reserves remain at only 80 percent of the ARA metric.
  - Curb rapid increase in non-mortgage consumer credit.
  - Ensure banks are fully capitalized by end-December; enhance supervision, enact legislative and regulatory changes to address NPLs, and strengthen AML framework.

### Public Debt Sustainability Analysis — Baseline and Risks
- Overview:
  - Public debt ratio: "still high at around 85 percent of GDP" but "has come down and is expected to improve further under the baseline."
  - Projected decline in public debt-to-GDP: "about 30 percentage points between end-2017 and end-2023."
- Baseline assumptions:
  - Real GDP growth: "expected to remain anchored around 5-6 percent."
  - Inflation: "expected to remain at or below the target of 8 percent."
  - Primary balance: "projected to gradually improve from -1 percent to 1.5 percent of GDP between 2018 and 2023."
  - Concessional debt share: "At present, 40 percent of public debt is on concessional terms and this is expected to rise to about 60 by the end of the program."
  - Average effective interest rate of public debt: "currently 5.4 percent and projected to fall to about 4 percent by 2020."
- Debt dynamics and stress tests:
  - Change in gross public sector debt (cumulative end-2017 to 2023): "-29.2" (in percent of GDP).
  - Identified debt-creating flows (cumulative): "-35.9" (in percent of GDP).
  - Automatic debt dynamics (cumulative): "-33.4" (in percent of GDP).
  - Primary (noninterest) revenue and grants cumulative 2018–2023: "160.9" (in percent of GDP).
  - Primary (noninterest) expenditure cumulative 2018–2023: "158.4" (in percent of GDP).
  - Key baseline projections (selected): Real GDP growth 2018 "5.0", 2019 "6.0", 2020 "4.8", 2023 "5.9"; Effective interest rate 2018 "5.4", 2019 "4.9", 2020 "4.2", 2023 "3.0".
- Stress test scenarios (selected outcomes):
  - Primary balance shock: a 20 percent of GDP worsening in the primary balance over 2020 and 2021 → public debt reaches 87 percent in 2021, gross financing needs almost 20 percent of GDP.
  - Growth shock: decline in growth by one standard deviation in 2019 and 2020 → debt-to-GDP reaches 90 percent in 2020; gross financing needs in 2020 about 18 percent of GDP.
  - Exchange rate shock: real exchange rate depreciation of 25 percent in 2019 → debt increases to 90 percent of GDP versus about 76 percent in baseline.
- Debt profile and vulnerabilities:
  - Foreign-currency exposure: "roughly 84 percent of the debt is foreign-currency denominated."
  - Market indicators: EMBIG (bp) "290"; 5Y CDS (bp) "258".
  - Gross external financing need (billions of US dollars): 2017 "5.0"; 2018 "5.2"; 2023 "2.6".
- Mitigants:
  - Macro performance under the program strong; authorities rolled over external bonds maturing in 2017 and 2018 at lower interest rates; private and official inflows boosted gross reserves; no external maturities on international bonds until 2021.

### Structural Benchmarks and Deadlines (Selected)
- Fuel price mechanism and excise tax formula adopted and implementation plan submitted: end-December structural benchmark.
- Audit of concessions and repayment plan to be incorporated in Medium Term Financial Framework: end-August 2018.
- DBM third-party comprehensive review of 2012–2017 operations to be published: end-November 2018.
- Banks to book AQR provisioning gap and reclassify assets: end-June 2018 (prior action).
- Banks to raise capital amounts requested by BoM (deadline): end-December 2018; BoM intervention on non-compliant banks (structural benchmark end-January 2019).
- Implementation of debt service-to-income ratio limit for new consumer lending (initial ceiling 70 percent): end-September structural benchmark.
- Adoption of prudential regulation elements from Basel II/III (definition of capital, risk weights, capital buffers, Pillar 2): end-December structural benchmark.
- Legislative reforms for NPL resolution and creditor rights:
  - Present draft amendments to strengthen enforcement of creditor rights: by end-September; adopt by end-November 2018.
  - Present draft reformed corporate bankruptcy law: by end-September 2018; adopt by end-March 2019.
  - Adopt amendments to real estate registry and law on private bailiffs and introduce commercial courts: by end-April 2019.

*International Monetary Fund. Mongolia: Fourth Review Under the Extended Fund Facility Arrangement and Request for Modification of Performance Criteria (June 8, 2018).*

### 184.55 million).

### MONGOLIA FOURTH REVIEW UNDER THE EXTENDED FUND FACILITY ARRANGEMENT AND REQUEST FOR MODIFICATION OF PERFORMANCE CRITERIA

### Executive Summary
- Arrangement approved May 24, 2017: SDR 314.5054 million (435 percent of quota, or about $425 million).  
- Arrangement part of a $5.5 billion multi-donor financing package supporting the Economic Recovery Program.  
- Recent outturns:
  - Growth: 5.1 percent in 2017; 6.1 percent y.o.y. in Q1 2018.  
  - Fiscal: 2.1 percent of GDP primary surplus in Q1 2018.  
  - Program performance: All end-March 2018 quantitative targets under the program were met.  
- Structural reforms: Progress made with some delays; two tax administration laws submitted (originally due last February); amendments to the Bank of Mongolia law passed; Recapitalization Law planned; NPL resolution strategy approval and publication in progress but not complete.  
- Policy priorities emphasized by Acting Chair Mr. Tao Zhang:
  - Continue building fiscal and foreign exchange buffers.  
  - Strengthen the banking sector and follow up on the Asset Quality Review (AQR).  
  - Improve the investment climate and steadfastly implement the reform program to build resilience and ensure strong and inclusive growth.

### Recent Developments
- Growth and sectoral drivers:
  - Real GDP grew 5.1 percent in 2017 (up from 1.2 percent in 2016).  
  - Q1 2018 growth 6.1 percent y.o.y., driven by strong construction output.  
- External sector and reserves:
  - Current account deficit rose to over 10 percent of GDP in 2017 (from 4 percent in 2015).  
  - Reserves rose by $1.7 billion (15 percent of GDP) over 2017 but reserve accumulation slowed recently due to:
    - Acceleration in consumer- and investment-related imports.  
    - Decline in scheduled donor flows.  
    - Temporary border bottlenecks for coal exports.  
    - Portfolio outflows related to maturities on public debt.  
- Fiscal developments:
  - Primary balance in 2017 improved by 15 percentage points to a surplus of 2 percent of GDP. Two-thirds of the adjustment due to expenditure contraction from excessive 2016 levels.  
  - Revenues rose (boom in commodity exports and mining-related imports).  
  - Q1 2018 primary surplus 2.1 percent of GDP, with a 23 percent y.o.y. rise in revenues and large loan repayments to the Development Bank of Mongolia (DBM).  
- Inflation and monetary policy:
  - Inflation rose to 7.2 percent in 2017 (from less than one percent in 2016) due to CPI basket changes, higher tax rates, higher imported fuel prices, and demand recovery.  
  - Inflation moderated in the first 4 months of 2018 and remained below the 8 percent target.  
  - Bank of Mongolia cut the policy rate by 100 basis points in March 2018; cumulative cuts of 500 basis points, reversing the 2016 emergency hike.  
- Financial sector and AQR:
  - AQR identified capital shortfall as of Q3 2017: 1.9 percent of GDP.  
  - BOM analyzed banks’ business plans and updated AQR results; final capital shortfalls communicated in May 2018 and must be met by end-December 2018.  
  - Banks must formally book the provisioning gap identified by the AQR by end-June (prior action for this review).  
  - Parliament will pass a Recapitalization Law outlining when/how public funds can be used to support systemic banks (prior action for this review).  
  - Credit growth rose from 7 percent in 2016 to 11 percent in 2017 despite average nominal interest rates of 17 percent.

### Outlook and Risks
- Near-term outlook:
  - Staff project growth to remain at 5 percent in 2018.  
  - Output gap in the non-mining sector expected to be slightly positive in 2018.  
  - Inflation expected to remain around 8 percent.  
  - Gross international reserves expected to remain broadly unchanged due to delays in donor loans and strong import growth.  
- Medium-term outlook:
  - Growth path anchored by:
    - Continued OT-related investments and projects related to the Tavan Tolgoi (TT) coal mine.  
    - Second phase of OT copper mine starting production in 2021-22.  
  - Public debt projections:
    - Public debt about 71 percent of GDP in 2020 (vs. 97 percent projected in the original EFF).  
    - Public debt returning to 2015 levels of 55 percent by 2023.  
  - Reserves projection: $4.7 billion, or 7 months of imports by 2020 (vs. $4 billion projected in the original EFF).  
- Key downside risks (three highlighted):
  - Increasing political pressure could prompt premature easing of monetary and fiscal policies, slow structural reforms, or alter the investment climate (risking OT and other growth drivers).  
  - Developments in the mining sector: fall in prices from weaker Chinese or global demand; renewed border bottlenecks affecting coal exports; or changes in China’s environmental policy reducing coal imports.  
  - Challenges in AQR follow-up: liquidity pressures or banks unable to raise needed capital by end-December could undermine financial stability or slow recovery, requiring close monitoring and decisive BoM action.

### Program Discussions — Fiscal Policy
- Revenue and fiscal stance:
  - Q1 outturn suggests revenues likely to exceed previous estimates; authorities intend to save all revenue over-performance (up from earlier commitment to save half).  
  - Fiscal target tightened to -1 percent of GDP (from -1.6 percent at last review and -2.6 percent in the 2018 budget passed by parliament); future program targets unchanged.  
  - Tighter stance relative to debt-stabilizing primary balance of -5 percent; public debt at 85 percent of GDP.  
- Capital spending risks:
  - Commitments on concessional foreign-financed capital spending have exceeded budget ceilings by an estimated 2.2 percent of GDP. Causes: sharp increase in concessional financing, low ceiling in 2018 budget, inadequate coordination during government change.  
  - Authorities committed to offsetting measures (prioritization of other capital spending or lower non-essential current spending) to meet the agreed deficit target and to strengthen public financial management.  
- Budget structure reforms and key items:
  - Fuel price and tax:
    - Retail price of the most widely-used gasoline currently fixed; this can lead to fuel shortages when world prices are high.  
    - Authorities committed to moving away from fixed retail price by start of 2019.  
    - Plan to adopt a formula to (i) ensure sufficient corporate profits to prevent shortages, (ii) increase consumer price flexibility, and (iii) gradually re-introduce an excise tax to reach a target level over a three-year period (end-December structural benchmark).  
  - Social spending:
    - Social assistance spending over 2 percent of GDP and protected under the program.  
    - Original program intended to change Child Money assistance from universal to poorest 40 percent to scale up targeted programs; authorities instead reduced coverage to poorest 80 percent and reversed much of planned increases in targeted programs.  
    - Ongoing pressure to return to universal coverage. This mix will not undermine macro stability but reduces assistance to the most vulnerable and departs from commitments in ADB and World Bank programs. If universal coverage is pursued, the budget should address inequality through measures such as progressive income taxation.  
  - Infrastructure concessions:
    - Unpaid fiscal commitments from “build-transfer agreements” total roughly 5 percent of GDP.  
    - Authorities auditing completed concessions to assess cost and legality; once audit complete and payment schedule finalized, obligations will be included in the 2019 budget and next Medium-Term Budget Framework (end-August structural benchmark).  
    - No new build-transfer agreements signed since early 2017; authorities confirm the practice is forbidden.  
  - Mortgage program:
    - 2013–2016 surge in subsidized mortgages financed by Bank of Mongolia accounted for 80 percent of outstanding mortgages.  
    - Since 2016, Ministry of Finance solely responsible for net new subsidized mortgage lending; aggregate size of subsidy limited to 0.4 percent of GDP per year. Mortgage growth slowed and the stock is falling relative to GDP.  
    - Memorandum of Understanding (late 2017) commits to transfer the stock of subsidized mortgages on the BOM balance sheet to the government. Staff will work to better target subsidies to the most vulnerable.  
  - Development Bank of Mongolia (DBM):
    - Pre-program DBM net lending about 3 percent of GDP per year as off-budget fiscal spending.  
    - Program expanded fiscal coverage to include DBM net lending; DBM had net repayments of 0.5 percent of GDP in 2017.  
    - Audit of DBM activities since 2012 approved by DBM board; expected completion by mid-November 2018. Post-audit work needed to decide DBM’s proper role balancing fiscal and governance risks with development needs.

### Program Discussions — Monetary and Exchange Rate Policy
- Policy stance:
  - Authorities committed to remain vigilant against inflation and to support further accumulation of reserves.  
  - BoM cut policy rate by 100 basis points in March 2018; cumulative cuts of 500 basis points since the 2016 emergency hike.  
- Inflation outlook:
  - Inflation expected to remain around 8 percent in 2018 reflecting cessation of one-off domestic factors.

### Program Discussions — Financial Sector Policy
- Asset Quality Review (AQR) and recapitalization:
  - AQR completed; identified capital shortfall as of Q3 2017: 1.9 percent of GDP.  
  - BOM analyzed banks’ business plans and updated AQR; final capital shortfalls communicated to banks in May 2018, to be met by end-December 2018.  
  - Banks required to formally book the provisioning gap identified by the AQR by end-June (prior action).  
  - Parliament to pass Recapitalization Law specifying when/how public funds can be used to support systemic banks (prior action).  
- Banking sector developments:
  - Banks in process of raising capital to address identified shortfalls.  
  - Bank lending accelerated: credit growth rose from 7 percent in 2016 to 11 percent in 2017 despite average nominal interest rates of 17 percent.  
  - Continued supervisory attention and potential Bank of Mongolia interventions noted as important contingency if banks cannot meet capital needs.

*International Monetary Fund. Mongolia: Fourth Review Under the Extended Fund Facility Arrangement and Request for Modification of Performance Criteria (June 8, 2018).*

### 13.      The next move in the policy rate should await clear evidence on the direction of

### 13.      The next move in the policy rate should await clear evidence on the direction of

### Monetary policy and inflation
- Inflation has stabilized just below the 8 percent target in recent months, but upside risks remain as credit growth is strong and the output gap has turned positive.
- Gross reserves are significantly higher than expected at the time of program approval but remain at only 80 percent of the IMF ARA metric (a ratio between 100–150 percent is considered adequate).
- Policy recommendation:
  - Keep monetary policy on hold and stand ready to hike if inflation surprises negatively or the balance of payments fail to strengthen.
  - Tighten macroprudential measures in coming months (mainly aimed at financial stability) which may also help tighten the stance and reduce domestic absorption (see para 17).

### External position
- The Togrog (in nominal and real and nominal effective terms) depreciated by nearly 25 percent in 2016 and has been broadly stable since amid substantial reserve accumulation.
- The large change in relative prices has not generated a correction in the current account deficit (it has widened) due to a surge in FDI-related capital goods imports and dividend repayments.
- Household response to loss of foreign currency purchasing power: sharply increased borrowing, accelerating consumer imports.
- External vulnerabilities and statistics:
  - Overall external debt is now very high at 240 percent of GDP.
  - Foreign assets are still low.
- Policy implications:
  - Rein in consumer credit.
  - Ensure the investment climate supports increased export potential.

### Financial sector policy — recapitalization and resolution
- Timeline and expectations:
  - Banks are expected to address the capital shortfall identified by BOM; by end-December, the banking system should be fully capitalized and well-positioned to support the ongoing economic recovery.
  - If any bank is unable to raise the needed capital by end-December, authorities have powers to intervene (end January-2019 structural benchmark).
- Intervention framework:
  - For systemic banks unable to meet shortfalls with private capital, a soon-to-be passed recapitalization law permits injection of public funds under strict conditions.
  - For non-systemic institutions, BOM can use revised banking and DICOM laws to resolve the bank and protect depositors.
- Contingency needs:
  - Additional contingency planning and scenario analysis required; BOM and MOF should map out hypothetical transaction details and identify needed public resources.

### NPL resolution, prudential regulation, and AML/CFT
- NPL strategy and legal reforms:
  - Drafting and publication of a detailed NPL resolution strategy delayed (originally end-May structural benchmark) and will be completed in coming months.
  - Implementation measures expected to start in the Fall, including:
    - Collateral enforcement reforms (end-November structural benchmark).
    - Reformed corporate bankruptcy law (end-March 2019 structural benchmark).
    - Taxation and judicial process reforms (end-April 2019 structural benchmark).
    - Real estate data (end-April 2019 structural benchmark).
  - Consideration of an Asset Management Company (AMC) to resolve the large stock of NPLs; if established, Mongolian public stake limited to a small minority stake and no public entity will lend or issue guarantees to the AMC.
- Prudential regulation enhancements:
  - Adopt new prudential regulations by revising risk weights, introducing a definition of capital and capital buffers aligned with international standards, and detailing criteria for restricting dividend and coupon payments when needed (end-December structural benchmark).
- Macro-prudential measures on household lending:
  - More than 40 percent of household loans now have debt service-to -income ratios above 60 percent.
  - Many such loans are notionally collateralized by wages or pensions, but high household debt levels increase risk to growth and public welfare.
  - Authorities aim to introduce a limit on the debt service to income ratio on new household lending in coming months (end-September structural benchmark).
  - Improve institutional framework for macro-prudential measures to clarify analytical framework and decision-making.
- AML/CFT progress and risks:
  - 2017 APG assessment found deficiencies in both the underlying legal framework and enforcement, resulting in closer international scrutiny and a reduction in correspondent banking relationships.
  - April amendments to the AML/CFT law and the Law on Infringements addressed some deficiencies.
  - Critical next steps: demonstrate implementation of AML/CFT regulations and targeted financial sanctions on financing of proliferation of weapons of mass destruction; step up risk-based offsite and onsite supervision of banks, non-bank financial institutions, and other high-risk entities.
  - The Financial Action Task Force may consider Mongolia’s status (potential “grey listing”) in June and the APG will assess progress in July.

### Program modalities and performance
- Quantitative and structural performance:
  - Authorities met all quantitative performance criteria (QPCs) for end-March.
  - Two tax administration laws submitted (originally due last February).
  - Since end-March to end-May, authorities passed amendments to the Bank of Mongolia law and will pass a Recapitalization Law; approval and publication of the NPL resolution strategy has been delayed.
- Revisions and new benchmarks:
  - For 2018, the primary balance was tightened to reflect revenue over-performance and the end-year NIR target revised downward, primarily to reflect delays in donor funding.
  - Monetary targets adjusted accordingly.
  - New structural benchmarks added in fiscal policy (fuel price mechanisms and taxation, tax administration compliance) and banking (booking AQR results, new macro-prudential limit on household lending, and measures to strengthen NPL resolution).
- Financing and reserves:
  - Program remains fully financed despite envisioned delays in donor funding.
  - Program has overperformed on public debt and reserves goals, reflecting better than expected external conditions.
  - Public debt at end-2017 was ten percentage points of GDP lower than originally projected and this over-performance is expected to become 20 percentage points by end-year.
  - NIR as of end-March 2018 was $1.5 billion higher than the initial targets but the margin will moderate somewhat by year end due to delays in donor funding.
  - Delays in donor funding largely due to authorities needing more time to complete several prior actions expected to be done by early 2019.
  - Given over-performance to date, the delay in NIR accumulation can be accommodated within the program.
  - Nonetheless, with public debt still high and reserves not yet at adequate levels, significant risks remain as noted in para 10.

### Staff appraisal — key challenges and priorities
- Achievements:
  - Authorities have successfully averted a debt crisis; macroeconomic outcomes have exceeded expectations driven by strong external demand combined with expenditure restraint.
  - Fiscal and reserve targets under the program met with considerable margins.
- Remaining challenges and risks:
  - Risks include lower external demand for commodities, rising domestic pressures, adverse changes to the investment climate, and resistance from vested interests.
- Fiscal policy priorities:
  - Continued fiscal discipline while improving budget structure to support sustained adjustment as 2020 elections near and spending pressures rise.
  - Public debt still high at around 85 percent of GDP; crucial to maintain commitment to the program.
  - Priorities: continued expenditure restraint, strengthening tax administration, protecting social spending, and improving public financial management (concessions, public investment, operations of the DBM).
- Reserves and monetary stance:
  - Maintain policies to support buildup of international reserves to insulate the economy from external shocks.
  - Authorities committed to a monetary policy stance vigilant against inflation and supporting improvement in the balance of payments.
  - Gross reserves remain at only 80 percent of the ARA metric—and are expected to remain flat in 2018.
  - Authorities should keep monetary policy on hold and stand ready to raise rates if the balance of payments fails to strengthen or if inflation surprises negatively.
  - Policy complements: replace costly domestic-financed capital spending with concessional foreign-financed lending, and curb rapid increase in non-mortgage consumer credit.
- Banking sector recapitalization:
  - Banks undercapitalized will have until end-December to raise capital.
  - Ensuring banks are fully capitalized is crucial to restore confidence; this requires enhanced supervision, legislative and regulatory changes to address NPLs, and strengthening the AML framework.

*International Monetary Fund — Selected chapter summary*

### 27.      On the basis of progress to date and the authorities’ continuing commitment to the

### On the basis of progress to date and the authorities’ continuing commitment to the program, staff supports the request for modification of performance criteria and recommends completion of the fourth review.

### Real Sector Developments
- Growth rebounded sharply in 2017; on the expenditure side driven by a recovery in domestic demand.  
- Supply-side details:
  - Mining contracted.
  - Services sector increased by almost 9 percent.
- Labor and wages:
  - Recovery in 2017 accompanied by improvement in employment, particularly in manufacturing.
  - Real wage growth moderated due to stronger inflation.
- Prices and housing:
  - After accelerating in most of 2017, inflation has begun to stabilize around the target of 8 percent.
  - Housing prices stabilized after years of deflation, in line with stronger economic activity and household lending.
- Key headline figures (selected from Table 1):
  - Real GDP growth (percent change): 2015: 2.4; 2016: 1.2; 2017 Act.: -0.2; 2018 Proj.: 5.1; 2019 Proj.: 1.8; 2020–23 Proj.: 5.0, 5.0, 6.0, 4.8, 5.0, 5.2, 5.9.
  - Consumer prices (End-period; percent change): 2015: 1.1; 2016: 0.8; 2017 Act.: 6.1; 2018 Proj.: 7.2; 2019–23 Proj.: 6.1, 7.8, 8.1, 8.2, 7.1, 7.2, 6.9, 7.1.
  - Nominal GDP (in billions of togrogs): 2017 Act.: 26047; 2018 Proj.: 27167; 2019–23 Proj.: 27688, 30662, 30830, 34941, 39153, 47274, 9127, 55457. (Preserved as in source table sequence.)

### Fiscal Sector Developments
- Fiscal performance improved substantially in 2017, supported by both significant expenditure cuts and strong revenue performance.
- Strong revenues primarily from a recovery in mining-related receipts.
- Public debt ratio has started to decline.
- Authorities used better fiscal performance and donor support to reduce high-cost domestic bonds and build deposits.
- Key fiscal aggregates (selected from Table 2a/2b):
  - Total revenue and grants (in percent of GDP): 2015: 25.1; 2016: 23.5; 2017 Act.: 24.7; 2018 Proj.: 29.2; 2019–23 Proj.: 26.3, 27.0, 27.4, 27.7, 27.0, 26.6, 26.1.
  - Total expenditure and net lending (in percent of GDP): 2015: 33.6; 2016: 40.5; 2017 Act.: 35.3; 2018 Proj.: 31.1; 2019–23 Proj.: 34.8, 32.3, 32.1, 31.9, 29.3, 27.2, 26.6.
  - Overall balance (IMF definition): 2015: -8.5; 2016: -17.0; 2017 Act.: -10.6; 2018 Proj.: -1.9; 2019–23 Proj.: -8.5, -5.3, -4.7, -4.2, -2.3, -0.6, -0.5, -0.2.
  - Primary balance (IMF definition): 2015: -5.6; 2016: -13.0; 2017 Act.: -5.5; 2018 Proj.: 2.1; 2019–23 Proj.: -3.1, -1.5, -1.0, -1.0, 0.3, 1.5, 1.5, 1.5.
  - Mineral revenue (in percent of GDP): 2017 Act.: 4.4; 2018 Proj.: 2.5; 2019–23 Proj.: 3.7, 5.1, 3.7, 3.9, 4.1, 4.3, 4.0, 3.9, 3.9, 4.0.

### Financial Sector Developments
- Private sector credit growth recovered in 2017, driven by strong lending to households.
- FX composition and banking behavior:
  - The share of foreign currency loans has fallen in recent years, while the share of FX deposits has been rising.
  - Loan-to-Deposit Ratios continue to trend down.
- BOM policy and banks:
  - The BOM continued to lower its policy rates, though lending rates remained high and largely unchanged.
  - Amid substantial FX intervention by BOM, banks have significantly increased holdings of sterilization bills.
  - The banking system remains highly concentrated in a few large banks.
- Key financial figures (selected from Tables 4 and 8):
  - Credit growth (percent change): 2015: 3.6; 2016: 6.7; 2017 Act.: 9.0; 2018 Proj.: 11.1; 2019–23 Proj.: 10.3, 13.6, 12.5, 14.0, 14.0, 14.0, 14.0.
  - Broad money growth (percent change): 2015: -5.5; 2016: 21.0; 2017 Act.: 16.1; 2018 Proj.: 30.5; 2019–23 Proj.: 13.3, 21.1, 21.5, 13.3, 12.1, 11.7, 12.4, 12.9.
  - Risk Weighted CAR (Capital) at various 2017 dates: 16.2, 15.0, 16.1, 16.0, 17.7, 17.9, 18.6, 18.5, 18.0, 17.5, 17.4, 16.7.
  - NPL to gross loans (percent) across 2017 dates: 6.7, 3.1, 2.2, 2.5, 3.1, 7.3, 7.2, 6.6, 7.3, 7.5, 7.3, 7.6.
  - Average lending rate (in percent) across 2017 dates: 20.7, 16.8, 16.6, 16.9, 16.4, 17.1, 16.4, 16.6, 16.7, 16.5, 16.7, 16.8.
  - FX lending to total lending (percent) across 2017 dates: 33.7, 32.3, 32.6, 27.5, 23.5, 24.5, 20.2, 20.7, 21.4, 21.4, 22.3, 22.5.

### External Sector Developments
- Overall external accounts improved significantly in 2017.
- Current account and capital flows:
  - Current account slightly worsened due to greater profit repatriation by mining companies.
  - Significant recovery in total capital inflows, including rising FDI.
- Reserves and exchange rate:
  - Authorities used the strengthening external sector for reserve accumulation rather than nominal currency appreciation.
  - The real exchange rate appreciated modestly due to high inflation.
- Key balance of payments figures (selected from Table 3 and Table 5):
  - Current account balance (percent of GDP): 2015: -4.0; 2016: -6.3; 2017 Act.: -4.4; 2018 Proj.: -10.4; 2019–23 Proj.: -9.5, -6.4, -8.0, -8.3, -7.7, -4.7, -1.3, 2.8.
  - Gross official reserves (end-period, in USD millions): 2015: 1324; 2016: 1297; 2017 Act.: 1692; 2018 Proj.: 3012; 2019–23 Proj.: 2512, 2515, 3595, 3150, 4299, 4755, 5406, 5380, 5807. (Preserved sequence as in source.)
  - Exports of goods (y/y percent change): 2015: -20.1; 2016: 4.1; 2017 Act.: 20.0; 2018 Proj.: 21.4; 2019–23 Proj.: -15.3, 7.8, 10.4, 2.9, -0.1, 8.1, 8.2, 15.1.
  - FDI recovery noted in 2017 (Figure commentary).

### Monetary Sector
- Since beginning of 2017, net foreign assets of the BOM strengthened due to foreign exchange accumulation.
- BOM sterilized the impact on domestic liquidity through issuance of central bank bills.
- Banks held excess reserves in FX at a lower level compared with prior years.
- After years of unwinding mortgage exposure to banks, BOM claims have stabilized.
- Broad money growth accelerated rapidly, contributing to an acceleration in private credit.
- Private credit relative to GDP remains significantly higher than a decade ago, consistent with financial deepening.
- Key monetary aggregates (selected from Table 4):
  - Reserve Money (in billions of togrogs, end of period examples): 2017 Act.: 2460; 2018 Proj.: 3064; subsequent projections listed in table.
  - Net foreign assets (broad money basis): 2015: -4158; 2016: -4580; 2017 Act.: -4176; 2018 Proj.: -1541; 2019–23 Proj.: -2037, -92, -293, -445, -914, -1593, -2249, -2889.
  - Credit to GDP ratio examples: 2015: 60.2; 2016: 62.1; 2017 Act.: 62.2; 2018 Proj.: 60.8; 2019–23 Proj.: 64.5, 59.5, 60.3, 63.9, 64.4, 5.0 (preserved sequences as in table).

### Markets
- Sovereign spreads and yields:
  - Since the program, Mongolian sovereign spreads tracked other emerging markets; recently sovereign yields on secondary markets have seen a modest increase.
  - Mongolian spreads vis-à-vis U.S. treasuries have moved correspondingly.
- Commodities and equities:
  - After an increase in 2017, commodity prices of key Mongolian exports have been stable in recent months.
  - Stock prices of mining companies have experienced some volatility.
- Exchange rate:
  - After a sharp depreciation in 2016-17, the currency has remained relatively stable.
- Market indicators (selected from figures and tables):
  - Copper prices (US$ per ton) and Gold prices (US$ per ounce) series are reported in the tables (preserved as listed values across years).

### Gender
- Female labor force participation in Mongolia is in line with other countries in the region but has deteriorated over the past decade, while male participation rates have improved.
- Female unemployment rate is less cyclical than the male unemployment rate.
- Female enrollment ratio at the primary level has remained relatively higher.
- Mongolia ranks high in the region on the gender inequality index, but the relative gender earnings gap remains sizable and has widened in recent years.

### Program Financing and Fund Support
- Existing and prospective Fund arrangements (Table 6 and Table 7):
  - Stock of existing and prospective Fund credit (end of period examples): 2017 Act. stock: 83.87 (Million SDR); subsequent stocks and phasing listed in table through 2023.
  - In percent of quota and GDP are reported across 2017–23 in Table 6 (values preserved in source table).
- Access and phasing under EFF (Table 7): Purchases and availability dates and percent of quota are listed (e.g., May 24, 2017 Board Approval of extended arrangement: Purchase Million SDR 27.95; Percent of Quota 238.67), with subsequent review completions and purchase amounts and percentages noted through March 15, 2020.

*Source: IMF staff report as presented in the supplied content.*

### Annex I. Public Debt Sustainability Analysis

### Annex I. Public Debt Sustainability Analysis

### Overview
- Public debt ratio: "still high at around 85 percent of GDP" and "has come down and is expected to improve further under the baseline."
- Projected decline in public debt-to-GDP: "about 30 percentage points between end-2017 and end-2023."
- Improvement drivers: "high nominal growth, concessional financing, and strong fiscal performance under the program."
- Main vulnerability: "changes in the path of growth and the exchange rate."

### Baseline assumptions
- Real GDP growth: "expected to remain anchored around 5-6 percent."
- Inflation: "expected to remain at or below the target of 8 percent."
- Exchange rate: "broadly in line with fundamentals and expected to remain so over the forecast horizon."
- Financing: "concessional budget support and project loans in line with original program commitments."
- Primary balance: "projected to gradually improve from -1 percent to 1.5 percent of GDP between 2018 and 2023."
- Concessional debt share: "At present, 40 percent of public debt is on concessional terms and this is expected to rise to about 60 by the end of the program."
- Average effective interest rate of public debt: "currently 5.4 percent and projected to fall to about 4 percent by 2020."

### Debt outlook and automatic dynamics
- Decline drivers: "almost entirely due to benign “automatic” debt dynamics in the form of low interest rates and high economic growth."
- Interest rate-growth differential: key determinant of improving debt outlook.
- Identified projected contributions (selected):
  - Change in gross public sector debt (cumulative end-2017 to 2023): "-29.2" (in percent of GDP).
  - Identified debt-creating flows (cumulative): "-35.9" (in percent of GDP).
  - Automatic debt dynamics (cumulative): "-33.4" (in percent of GDP).
  - Primary (noninterest) revenue and grants cumulative 2018–2023: "160.9" (in percent of GDP).
  - Primary (noninterest) expenditure cumulative 2018–2023: "158.4" (in percent of GDP).
  - Real interest rate contribution (cumulative): "-12.8" (in percent of GDP).
  - Real GDP growth contribution (cumulative): "-20.7" (in percent of GDP).
- Baseline projections (selected years):
  - Real GDP growth: 2018 "5.0", 2019 "6.0", 2020 "4.8", 2021 "5.0", 2022 "5.2", 2023 "5.9" (in percent).
  - Inflation (GDP deflator): 2018 "8.1", 2019 "6.9", 2020 "6.9", 2021 "6.4", 2022 "6.8", 2023 "6.6" (in percent).
  - Primary Balance: 2018 "-1.0", 2019 "-1.0", 2020 "-0.2", 2021 "1.6", 2022 "1.6", 2023 "1.6" (in percent of GDP).
  - Effective interest rate: 2018 "5.4", 2019 "4.9", 2020 "4.2", 2021 "3.3", 2022 "3.2", 2023 "3.0" (in percent).

### Risks and stress test scenarios
- General sensitivity: "projections are particularly sensitive to growth, exchange rate, and primary balance shocks."
- Forecast track record: "broadly reasonable on growth and inflation but too optimistic on the primary balance" with "actual primary deficits being much higher than projected."
- Primary balance shock (staff scenario): reflects risk of large primary deficit deviation given observed loose fiscal stance in 2015 and 2016 ("-5.6 and -13 percent of GDP respectively").
  - Shock specification: "a 20 percent of GDP worsening in the primary balance relative to the baseline over 2020 and 2021."
  - Outcome: "public debt reaches 87 percent in 2021, and gross financing needs reach almost 20 percent of GDP."
- Growth shock:
  - Specification: "decline in growth by one standard deviation in 2019 and 2020."
  - Outcome: "debt-to-GDP-ratio is forecast to reach 90 percent in 2020, reversing the improvements... It would also sizably increase gross financing needs in 2020 to about 18 percent of GDP compared to about 12 percent of GDP in the baseline."
- Exchange rate shock:
  - Specification: "A real exchange rate depreciation of 25 percent in 2019."
  - Outcome: "increase debt to 90 percent of GDP, compared to about 76 percent projected under the baseline."
- Fan charts and uncertainty:
  - Symmetric fan chart width: "estimated at about 60 percent of GDP."
  - Asymmetric fan chart: "an upside shock to primary balance is restricted to zero ... resulting in a more upward-sloping debt path. This reflects a balance of risks skewed to the downside."
- Combined and additional stress tests (selected outcomes described):
  - Primary Balance Shock projections show primary balance and effective interest rate paths deviating sharply (examples: primary balance in 2020 "-12.6"; effective interest rate in 2020 "3.7" under that shock).
  - Real GDP Growth Shock projections show real GDP growth path: 2018 "5.0", 2019 "0.2", 2020 "-1.0", 2021 "5.0", 2022 "5.2", 2023 "5.9" (in percent).
  - Real Exchange Rate Shock example: inflation in 2019 "15.1" in that scenario.
  - Combined Macro-Fiscal Shock shows more adverse effective interest rate path (e.g., 2021 "5.3", 2022 "6.2", 2023 "7.1" in percent).

### Debt profile and vulnerabilities
- Foreign-currency exposure: "roughly 84 percent of the debt is foreign-currency denominated."
- Comparison to benchmarks:
  - Public debt in foreign currency: "84 percent vs. 60 percent" (upper-risk assessment benchmark).
  - External financing needs: "above the upper-risk assessment benchmark driven by Mongolia’s large current account deficit" (gross financing needs concern), though "not due to high general government financing needs (as there are no large amortizations of public debt due until 2021)."
- Market perception and indicators (selected):
  - EMBIG (bp): "290" (long-term bond spread over German bonds).
  - 5Y CDS (bp): "258".
  - Public gross financing needs examples: baseline series includes "6.0, 18.0, 3.6, 16.5, 7.7, 11.8, 4.3, 11.5, 6.1, 5" (in percent of GDP across years shown).
- Debt composition notes:
  - By borrower (external debt): intercompany loans "70 percent of GDP" (80% of those related to mining), other corporate borrowing "roughly 70 percent of GDP", government "63 percent of GDP" (roughly evenly between concessional official loans and international bonds).

### Mitigating factors and additional context
- Mitigants cited:
  - "Macro performance under the program continues to be strong."
  - Authorities have "rolled over external bonds maturing in 2017 and 2018 at much lower interest rates than before."
  - "Private and official inflows have boosted gross reserves significantly."
  - "The authorities face no external maturities on international bonds until 2021."
- Short-term external debt: "on an original maturity basis is 12 percent of GDP and only 40 percent of gross reserves."
- Caution on short-term metrics: "More analysis is needed to calculate short-term debt on a residual maturity basis" and "it is critical to look at the phasing of maturities of medium and long term external debt of the private sector more broadly."

*Source: IMF staff. As of April 01, 2018.*

### 6.      In conclusion, external leverage is appropriate to some degree for Mongolia but the

### cr18204 - 6.      In conclusion, external leverage is appropriate to some degree for Mongolia but the

### Conclusion on external leverage and risks
- External leverage is appropriate to some degree for Mongolia, notably:
  - Significant external borrowing to increase the export potential of the mining sector is appropriate.
  - Much of this borrowing is done via inter-company loans, which reduces the risks around such borrowing.
  - Recent increase in government borrowing on concessional terms to replace high cost and short-maturity domestic borrowing lowers overall risks.
- However, risks remain:
  - At 240 percent of GDP, external borrowing has likely also been used to support excessive domestic demand and runs the risk of a correction in future years.

### External Debt Sustainability: scenario findings and stress tests
- Figure 1 shows external debt in percent of GDP under baseline and stress scenarios (interest rate shock, growth shock, current account shock, combined shock, real depreciation shock), with baseline external debt at 138 (percent of GDP) in the displayed charts.
- Scenario highlights (as presented in the figure annotations and notes):
  - Individual shocks are permanent one-half standard deviation shocks.
  - Ten-year historical averages for variables are shown alongside baseline and scenario projections.
  - Permanent 1/4 standard deviation shocks applied to real interest rate, growth rate, and current account balance in combined shock tests.
  - One-time real depreciation of 30 percent occurs in 2017 in the real depreciation shock.

### Key projection table highlights (Table 1: External Debt Sustainability Framework, 2013-2023)
- Baseline: External debt (in percent of GDP)
  - 2013: 157.6
  - 2014: 178.7
  - 2015: 193.3
  - 2016: 220.7
  - 2017: 246.9
  - 2018: 224.8
  - 2019: 213.2
  - 2020: 198.2
  - 2021: 183.1
  - 2022: 159.5
  - 2023: 138.2
- Change in external debt (in percent of GDP)
  - 2013: 17.4
  - 2014: 21.1
  - 2015: 14.6
  - 2016: 27.4
  - 2017: 26.2
  - 2018: -22.1
  - 2019: -11.6
  - 2020: -15.0
  - 2021: -15.1
  - 2022: -23.6
  - 2023: -21.3
- Identified external debt-creating flows (4+8+9) (in percent of GDP)
  - 2013: 5.4
  - 2014: 13.3
  - 2015: 10.0
  - 2016: 53.6
  - 2017: 6.5
  - 2018: -7.0
  - 2019: -11.2
  - 2020: -9.3
  - 2021: -11.6
  - 2022: -15.6
  - 2023: -16.7
- Current account deficit, excluding interest payments (in percent of GDP)
  - 2013: 21.6
  - 2014: 5.0
  - 2015: -3.7
  - 2016: -3.0
  - 2017: -1.1
  - 2018: -2.5
  - 2019: -1
  - 2020: -1
  - 2021: -3
  - 2022: -6
  - 2023: -9
- Deficit in balance of goods and services (in percent of GDP)
  - 2013: -100.1
  - 2014: -108.4
  - 2015: -87.6
  - 2016: -100.5
  - 2017: -119.7
  - 2018: -1.9
  - 2019: -0.2
  - 2020: 0.4
  - 2021: -1.9
  - 2022: -4.5
  - 2023: -7.8
- Exports (in percent of GDP)
  - 2013: 39.6
  - 2014: 51.9
  - 2015: 45.2
  - 2016: 50.2
  - 2017: 61.1
  - 2018: 59.4
  - 2019: 55.9
  - 2020: 51.2
  - 2021: 50.2
  - 2022: 48.9
  - 2023: 49.9
- Imports (in percent of GDP)
  - 2013: -60.5
  - 2014: -56.5
  - 2015: -42.4
  - 2016: -50.2
  - 2017: -58.6
  - 2018: 57.5
  - 2019: 55.8
  - 2020: 51.6
  - 2021: 48.3
  - 2022: 44.3
  - 2023: 42.2
- Net non-debt creating capital inflows (negative) (in percent of GDP)
  - 2013: -16.7
  - 2014: -2.3
  - 2015: -0.9
  - 2016: 37.4
  - 2017: -6.1
  - 2018: -4.0
  - 2019: -7.3
  - 2020: -7.7
  - 2021: -7.1
  - 2022: -8.2
  - 2023: -5.2
- Automatic debt dynamics (contribution, in percent of GDP)
  - 2013: 0.5
  - 2014: 10.6
  - 2015: 14.7
  - 2016: 19.2
  - 2017: 13.7
  - 2018: -0.4
  - 2019: -3.0
  - 2020: -1.0
  - 2021: -1.3
  - 2022: -1.6
  - 2023: -2.6
- Contribution from nominal interest rate (in percent of GDP)
  - 2013: 3.8
  - 2014: 6.3
  - 2015: 7.7
  - 2016: 9.2
  - 2017: 11.6
  - 2018: 10.5
  - 2019: 9.3
  - 2020: 8.4
  - 2021: 7.7
  - 2022: 7.0
  - 2023: 5.9
- Contribution from real GDP growth (in percent of GDP)
  - 2013: -15.8
  - 2014: -13.1
  - 2015: -4.7
  - 2016: -2.8
  - 2017: -9.7
  - 2018: -10.9
  - 2019: -12.2
  - 2020: -9.4
  - 2021: -9.0
  - 2022: -8.6
  - 2023: -8.5
- Residual, including change in gross foreign assets (2-3) (in percent of GDP)
  - 2013: 12.0
  - 2014: 7.8
  - 2015: 4.6
  - 2016: -26.3
  - 2017: 19.7
  - 2018: -15.1
  - 2019: -0.4
  - 2020: -5.7
  - 2021: -3.5
  - 2022: -8.0
  - 2023: -4.6
- External debt-to-exports ratio (in percent)
  - 2013: 398.3
  - 2014: 344.1
  - 2015: 428.1
  - 2016: 439.3
  - 2017: 404.3
  - 2018: 378.6
  - 2019: 381.2
  - 2020: 387.0
  - 2021: 364.9
  - 2022: 326.4
  - 2023: 276.8
- Gross external financing need (in billions of US dollars)
  - 2013: 4.7
  - 2014: 3.7
  - 2015: 3.3
  - 2016: 4.0
  - 2017: 5.0
  - 2018: 5.2
  - 2019: 3.9
  - 2020: 3.6
  - 2021: 3.4
  - 2022: 3.4
  - 2023: 2.6
- Gross external financing need (in percent of GDP)
  - 2013: 37.7
  - 2014: 30.4
  - 2015: 28.1
  - 2016: 36.0
  - 2017: 44.5
  - 10-Year average and other annotation values are presented in the table.

### Key macroeconomic assumptions underlying the baseline (historical averages and projections)
- Real GDP growth (in percent)
  - Historical average and projections include values such as 11.6, 8.1, 2.5, 1.4, 4.3, 7.1, 5.8, 5.0, 6.0, 4.8, 5.0, 5.2, 5.9 (as presented in the table).
- GDP deflator in US dollars (change in percent)
  - Historical/projection series include: -8.2, -9.9, -6.1, -6.2, -5.1, 2.6, 15.9, 7.6, 4.5, 4.7, 4.4, 5.0, 4.9.
- Nominal external interest rate (in percent)
  - Series: 2.8, 3.9, 4.1, 4.5, 5.2, 2.9, 1.5, 4.8, 4.6, 4.3, 4.3, 4.2, 4.1.
- Growth of exports (US dollar terms, in percent)
  - Series: -6.9, 27.5, -16.4, 5.6, 21.3, 13.3, 27.3, 9.8, 4.4, 0.5, 7.4, 7.5, 13.6.
- Growth of imports (US dollar terms, in percent)
  - Series: -4.8, -9.3, -27.8, 12.4, 16.4, 16.1, 39.4, 10.8, 7.5, 1.4, 2.7, 1.4, 5.7.
- Current account balance, excluding interest payments (in percent of GDP)
  - Series: -21.6, -5.0, 3.7, 3.0, 1.1, -10.1, 11.2, 2.5, 0.9, 0.7, 3.2, 5.9, 8.9.
- Net non-debt creating capital inflows (in percent of GDP)
  - Series: 16.7, 2.3, 0.9, -37.4, 6.1, 11.6, 22.2, 4.0, 7.3, 7.7, 7.1, 8.2, 5.2.

### Letter of Intent: program performance and policy commitments (Appendix I, June 8, 2018)
- Context and overall assessment
  - Mongolian economy continues to re-bound despite temporary slowdown in coal exports; recovery reflects strong external demand and benign global financial conditions.
  - Used strong growth to over-perform on key macro targets and refinance outstanding debt at lower interest rates.
- Program performance (as of end-March 2018)
  - Met all end-March 2018 quantitative performance criterion (QPCs).
  - A 23-percent increase in revenues helped reach a primary surplus in 1Q-18 of 2.1 percent of GDP.
  - Gross reserves fell by $40 million since end-2017, while net international reserves rose by about $200 million in 1Q-18, exceeding the target by $487 million.
  - Increased stock of central bank bills by over $500 million to manage liquidity and meet QPC on net domestic assets.
- Structural reform progress and adjustments
  - Fiscal sector: submitted revised General Tax law and simplified regime for small and medium enterprises to Parliament (structural benchmarks due end-February); increased Child Money program coverage from 60 to 80 percent; maintained commitment to increase spending on targeted social programs.
  - Financial sector: approved BOM law amendments in January 2018; will pass a recapitalization law in June (a prior action) outlining eligibility for public support, governance, burden sharing, supervision, management of public equity, and privatization timing; Financial Stability Council to finalize NPL resolution strategy soon.
  - Tax administration reforms: specialized compliance strategies and information system improvements underway.
  - Parliament approved increase in tax credit to 240,000 MNT for 2019 budget.
  - Follow-up to AQR: BOM sent May 8 letter to banks outlining capital shortfalls; deadline end-December 2018 to meet capital requirements.
  - Anti-Money Laundering: April amendments to law on Combatting Money Laundering and Terrorism Financing; related laws amended to align.
- Fiscal policy commitments and actions
  - Fiscal program overperforms in cash terms for 2018 (excluding concessional donor-financed investment commitments).
  - Greater concessional donor financing available: about 661 billion MNT or 2.2 percent of GDP in 2018 compared with 2018 budget assumptions.
  - Will explore proceeding with important infrastructure projects while prepared to rationalize other spending to keep deficit in line with program goals and avoid arrears.
  - Will strengthen public financial management to ensure budgets consistent with available foreign financing.
  - Specific structural benchmarks and reforms:
    - Submit strategy to Fund staff by end-September for gradually increasing market determination of retail fuel prices and re-instating an excise tax on retail fuel prices for implementation as of January 1, 2019 (end-December structural benchmark).
    - Maintain 80 percent coverage of Child Money program; scale up targeted food stamps program; working group to increase efficiency of social spending and incorporate conclusions in 2019 budget.
    - Complete audit of all outstanding concessions contracts and develop a repayment plan, to be incorporated in Medium Term Financial Framework (structural benchmark end-August 2018).
    - MOF to approve and publish guideline on appraisal and selection of public investment projects (structural benchmark end-December 2018).
    - Development Bank of Mongolia: third-party comprehensive review of 2012-2017 operations to be published by end-November; DBM net lending to remain within fiscal targets until confirmed commercial.
    - Tax collection actions: (i) by mid-July 2018 appoint joint MoF/GDT taskforce for implementing new tax legislation effective January 1, 2019; (ii) by mid-September 2018 GDT to complete comprehensive review of first half-year implementation of 2018 compliance improvement strategies; (iii) by mid-October 2018 GDT to complete design of 2019 Operational Plan (end-October structural benchmark).
    - Continue progress on eliminating BOM’s exposure to quasi-fiscal activities, including the mortgage program (per Memorandum of Understanding signed in late 2017).
- Monetary and exchange rate policy commitments
  - Inflation in line with target of 8 percent in 2018.
  - Policy rate cut by 100 bps recently, bringing cumulative cuts to 500 bps and reversing the 2016 emergency hike.
  - Further monetary moves will depend on new data and readiness to adjust policy if inflation threatens to rise durably above target or balance of payments do not strengthen.
  - Improve explanation of inflation forecasts.
  - Foreign exchange buffers not yet at desired levels given volatility and large stock of foreign liabilities; reserve accumulation pace has slowed.
  - Policy mix will aim to guard against excessive import growth, attract capital inflows, and continue donor support; inflows will be used to build reserves.
  - Manage domestic liquidity growth using a range of instruments, including maintaining policy rate to support demand for Central Bank bills.
  - If balance of payments conditions deteriorate, sale of foreign exchange reserves will be limited to smoothing excessive volatility and preventing disorderly market conditions.
- Financial sector policy and follow-up to AQR
  - Banks to book by end-June the provisioning gap identified by the AQR and reclassify assets to non-performing category in line with the AQR (structural benchmark).
  - Banks have until end-December 2018 to raise capital in amounts no less than those requested by BoM in the May 8 letter; BoM will intervene promptly on non-compliant banks (structural benchmark end-January).
  - Systemic and viable banks unable to raise adequate capital from private sources will be eligible for public capital support under strict conditions; non-systemic and non-viable banks unable to raise adequate capital will be resolved.
  - BoM will order banks not to pay dividends, coupon or principal of Tier 2 instruments, and bonuses to management until banks have reached a Tier 1 capital ratio of 11%.
  - All newly issued Tier 2 instruments will have early intervention triggers so they are loss-absorbing by full or partial write-down and/or conversion to equity upon request of the competent authority.
  - Strengthen contingency planning, crisis preparedness, and readiness for bank resolutions; BoM will provide liquidity only to banks that are solvent and viable on a forward-looking basis.
  - Adopt new prudential regulation with select elements from Basel II/III (definition of capital, more sensitive credit risk weights, capital buffers, and the Pillar 2) (end-December structural benchmark).

*Source: IMF staff report and Appendix I (Letter of Intent), June 8, 2018.*

### 12. Going forward, it is important that we strengthen banks’ ability to resolve non-performing

### Going forward, it is important that we strengthen banks’ ability to resolve non-performing loans (NPLs), both to improve financial stability and support a reduction in large interest spreads which weigh on economic growth. To this end, we will move forward on implementing a comprehensive NPL strategy.

### NPL resolution strategy and legislative reforms
- By end-September, the MoJ, in cooperation with BoM and in consultation with IMF staff, will present draft amendments to legislations - including the civil code - to strengthen the enforcement of creditor rights (e.g. simplifying appeals and notifications, improving auctions, and allowing effective out-of-court enforcement of collateral). These legislative amendments shall be adopted by end November 2018 (structural benchmark).
- By end September 2018, the MoJ, in cooperation with BoM and in consultation with IMF staff, will present draft amendments to a reformed corporate bankruptcy law (including an improved access to procedures, protection of secured creditors, and an efficient reorganization process). The reformed law shall be adopted by end March 2019 (structural benchmark).
- By end April 2019, in consultation with IMF staff, we will adopt amendments to laws related to the real estate registry that will allow for full public access to the ownership of real estates and establish a price and transaction registry for real estates (structural benchmark) and will adopt a law on private bailiffs and introduce commercial courts (structural benchmark).
- Decision on Asset Management Company (AMC): the authorities have decided not to proceed with a public AMC. In the event an AMC structure is pursued, implementing legislation will not allow a Mongolian public stake greater than 20 percent nor will the government, BOM, or any other public-sector entity lend to or issue any guarantees to the AMC.

### Macroprudential and financial sector measures
- BoM will define the institutional setup, internal BoM organization, and analytical framework for macroprudential policy in Mongolia based on the provisions of the banking law.
- To address strong growth in non-mortgage consumer lending, a macroprudential debt service-to-income ratio limit will be implemented for all new lending by banks by end-September (structural benchmark). The initial ceiling set by the BoM Monetary Policy Committee is:
  - Ceiling on debt service-to-income ratio for new consumer loans: 70 percent.
- The BoM will gradually tighten the limit further if risks from excessive consumer lending persist.
- Commitments to AML/CFT improvements: increase resources available to the Financial Intelligence Unit (FIU) and Financial Regulatory Commission (FRC) to address concerns raised by the Asia Pacific Group (APG).

### Recent policy actions and program commitments
- Monetary policy: on June 15, the Bank of Mongolia Monetary Policy Committee decided to leave the policy rate unchanged at 10 percent.
- Macroprudential action: MPC introduced the debt service-to-income ratio ceiling for new loans at 70 percent in response to a sharp rise in household debt.
- Fiscal stance and targets:
  - The primary balance through May reached 3.4 percent of GDP in cash terms (staff statement).
  - Primary surplus for the first quarter of 2018 was 2.1 percent of GDP and annual growth (year-on-year) was 6.1 percent (staff report).
  - Social spending in the first quarter of 2018: actual MNT 1200 billion vs. target floor MNT 1387 billion.
- Banking sector recapitalization and asset quality:
  - BoM informed banks they must formally book the provisioning gap identified by the AQR results by end-June 2018.
  - In May, BoM notified commercial banks about the capital they are required to raise by the end of the year; under-capitalized banks must book capital shortfalls on their balance sheets by end-June.
  - Recapitalization Law (prior action) was passed by Parliament on June 22, outlining when and how public-sector funds can be used to support systemic banks.
- Program financing and review:
  - The Government requests completion of the fourth review of the arrangement under the Extended Fund Facility, following which it intends to draw one tranche amounting to SDR 26.2088 million.
  - The Government has authorized publication of the Letter of Intent, attachments, and the associated staff report.

### Program assessment, risks, and policy priorities
- Program performance: all quantitative performance criteria for end-March 2018 were met; structural benchmarks have been achieved with some delays.
- Risks and policy priorities:
  - External and domestic shocks remain a vulnerability; further building of economic buffers is required.
  - Rising domestic demand increases pressure on the balance of payments and on reserves; BoM will not intervene in the foreign exchange market unless there is excessive volatility.
  - One emerging political economy issue: public discontent over public servants’ wages amid revenue overperformance could affect public acceptance of the program; authorities are discussing options within program parameters.
  - Fiscal risk from higher-than-planned spending on capital projects funded by concessional donor debt; revenue may overperform by "to 2 to 3 percent of GDP" this year (staff report wording preserved).
- Inflation and reserves:
  - Annual inflation rate at the end of May was 6.6 percent, below the target of 8 percent.
  - Net international reserves continue to be accumulated, although the pace has slowed in recent months.

### Structural benchmarks and deadlines (selected, exact wording retained)
- Adoption of legislative amendments to strengthen the enforcement of creditor rights (simplifying appeals and notifications, improving auctions, and allowing effective out-of-court enforcement of collateral). Target: End-November 2018.
- Adoption of reformed bankruptcy law (including an improved access to procedures, protection of secured creditors, and an efficient reorganization process). Target: End-March 2019.
- Adoption of the law on private bailiffs and introduction of commercial courts. Target: End-April 2019.
- Adoption of a law for full public access to the real estate registry and establishing a price and transaction registry for real estate. Target: End-April 2019.
- Implementation of a debt service-to-income ratio limit for all new lending by banks. Target: End-September (70 percent ceiling noted in MPC decision).

*IMF — Letter of Intent and staff statements (June 2018), Mongolia.*

---


_Source: https://www.imf.org/-/media/files/publications/cr/2018/cr18204.pdf_