Fitch affirms Mongolia at 'B'; outlook stableEconomy
Ulaanbaatar /MONTSAME/ Mongolia's ratings are supported by governance and per capita income that is high relative to 'B' range peers, as well as its favorable medium-term growth outlook.
The ratings are constrained by Mongolia's narrow economic base, vulnerability to external shocks and recurring bouts of political volatility. The Stable Outlook reflects Fitch's assessment that the economic recovery will continue during the remainder of this year and facilitate a modest decline in the government debt/GDP ratio, despite temporary disruptions associated with a spike in Covid-19 cases since March 2021.
Fitch forecasts Mongolia's economy to rebound by 5.0% in 2021, following a contraction of 5.4% in 2020. Growth of 15.5% yoy was reported in 1Q21, due in large part to strong export performance. Border restrictions on mineral exports to China, Mongolia's most important trading partner, were subsequently imposed in April and May as a pandemic containment measure, following Covid-19 cases among cross-border truck drivers. Fitch believes this may temporarily disrupt, but will not derail, Mongolia's recovery, with the Mongolian authorities reporting a resumption of cross-border customs traffic after recent health enhancements at the border, including increased vaccinations and testing capacity.
We expect domestic activity to gain momentum in the coming quarters, underpinned by Mongolia's nationwide vaccination rollout, a phased easing of social distancing measures, and targeted relief measures to support households and businesses. As of mid-May, the authorities report that 87% of eligible individuals over 18 years old have received at least one dose of a Covid-19 vaccine, with plans to fully vaccinate the target population by end-June. We believe this will pave the way for a recovery in consumption, services and other non-mining activity in 2H21, though implementation risks remain, including the success of vaccines in halting new transmissions.
Fitch projects the budget deficit will moderate to 5.3% of GDP in 2021, from 9.5% in 2020. Our forecast is wider than the government's baseline of 2.0%, as we expect the social distancing measures and border disruptions of recent months to weigh on government revenue, and lead to a more gradual unwinding of fiscal support. The government has extended part of its fiscal relief package through end-June from end-December 2020, including targeted tax exemptions and various subsidies. In April 2021, the government also launched a one-time cash handout equivalent to MNT1 trillion (about 2.4% of GDP) to support households.
Fitch forecasts general government debt will edge down by 2pp to 74% of GDP by end-2021, still above the current 'B' median of 68%. At the same time, we believe Mongolia's robust medium-term growth prospects and nascent pre-pandemic record of keeping fiscal outturns in line with approved budgets will facilitate an ongoing normalization of fiscal policy, and put public debt dynamics on a modest downward trajectory.
The Bank of Mongolia cut its benchmark policy rate by a cumulative 500bp in 2020, to a record low of 6%, and extended temporary forbearance measures for financial institutions through end-1H21. In February, the government approved a three-year MNT10 trillion economic policy support plan, in which banks will provide soft loans to support employment, SMEs, agricultural and housing programs. The central bank will also increase repurchase operations and facilitate banks to refinance loans and support the private sector recovery.
Mongolia remains vulnerable to external shocks in light of its narrow economic base and heavy reliance on external funding. Near-term external risks have declined after the issuance of a USD600 million sovereign bond in late-September 2020. The sovereign faces no marketable external bond maturities until December 2022. Foreign-currency reserves stood at a record high of USD4.8 billion at end-1Q21. Fitch forecasts FX reserves will rise to USD5 billion by end-2021, equivalent to 5.6x current-external payments, and against approximately USD3.2 billion in sovereign external debt maturities over 2022-2024.
Recurring bouts of political volatility are underscored by the sudden resignation of the former prime minister in January 2021 following protests in the capital city, and a recent legal controversy surrounding a failed attempt by the current president to run for re-election in the upcoming June elections. Relations between the government and foreign investors involved in the massive Oyu Tolgoi (OT) copper-gold mine have long been fractious. The government working group in April 2021 started negotiations with Rio Tinto on improving the project's framework agreement and commercial terms. Our assumption remains that the two sides will seek to avoid material disruption in the ongoing OT development project.
Mongolia's economy is exposed to the impact of global efforts to reduce greenhouse gas emissions, given that coal has averaged about one-third of total exports over the past five years. In the near term, we believe carbon transition risks are mitigated by the majority of Mongolia's coal exports being metallurgical coal, an essential ingredient in steel-making that is less immediately substitutable than thermal coal, which is primarily used for electricity generation. Mongolia's share of global carbon emissions is also comparatively low (estimated below 0.2%), given its small economic size.
Fitch's sector outlook on Mongolian banks is improving, which reflects our expectation that a rebound in economic growth in 2021 and the prospects of economic policy continuity will be conducive to banks' business environment. The recently announced economic policy support plan with financing support would alleviate some of the asset-quality pressures for banks in 2021 despite the surge in banks' Covid-19 related restructured loans by 3Q20, accounting for about 22% of total loans. Recognition of true asset-quality will likely be delayed as forbearance could stretch well into 2H21 or in 2022.