Economic Management Support Operation First DPF

closed

This program document seeks approval of the Executive Directors of a proposed programmatic Economic Management Support Development Policy Financing Operation (EMSO1) to Mongolia. This operation, in the amount of US$120 million, including US$80 million from the IDA 18 Crisis Response Window, is the first of three Development Policy Financing (DPF) operations in a programmatic series. The program development objective of the DPF is to support the Government of Mongolia in restoring debt sustainability, strengthening the social protection system, and enhancing competitiveness. The economic boom in 2011‐13, fueled by strong mineral exports and foreign direct investment (FDI), and expansionary fiscal policy, left Mongolia highly vulnerable to external shocks. These risks materialized from 2014 onward. With minerals accounting for almost 90 percent of exports, a sharp drop in commodity prices and slower growth in China significantly weakened the external and fiscal positions. The economy also took a major hit from a collapse of foreign investment which had reached over 30 percent of GDP during boom years. Expansionary policies compounded these shocks. Economic policy turned expansionary during the double‐digit growth period despite high inflation and a sharp widening of the current account deficit. Economic policy was loosened further from 2014 in response to the external shocks through fiscal expansion and monetary easing, driven by off‐budget expenditure and quasi‐fiscal lending. The economic stimulus, however, came at the cost of a significant increase in economic vulnerabilities. Government debt has increased almost fourfold since 2011, with the budget deficit reaching 17 percent of GDP in 2016. Mounting pressure on the balance of payments caused a sharp currency depreciation and a significant loss of reserves since 2013. Substantial risks to the balance of payments remain as about US$660 million sovereign bonds mature in 2018. The DPF, along with operations from other development partners, supports a set of reform measures to stabilize Mongolia’s economy and move it towards a sustainable development path. The reform programs supported by the DPF, developed in close collaboration with the IMF and ADB, seek to: (i) restore debt sustainability; (ii) strengthening the social protection system; and (iii) enhancing competitiveness. The DPF will also help Mongolia mitigate the immediate balance of payments risks by catalyzing successful market‐based refinancing of maturing commercial debt, and create fiscal space by substituting high‐cost, short‐term domestic borrowing with relatively more concessional and long maturity external assistance.