Mongolia in the middle of the Russia–Ukraine war

Authors: Oyuntugs Davaakhuu, Economic Research Institute and Tuvshintugs Batdelger, Economic Research Institute and National University of Mongolia

At the onset of Russia’s invasion of Ukraine, it was widely expected that the war would have a profoundly negative impact on the Mongolian economy. Mongolia is Russia’s direct southern neighbour and its economy significantly depends on the import of strategically important goods from Russia.

Mongolia imports around 28 per cent of its goods from Russia and is fully dependent on Russian petroleum products. The country’s vulnerability to this dependence has been exposed several times in the past. In 2008, Russian oil and petroleum company Rosneft proposed to build 100 gas stations in Mongolia. Though the Parliament of Mongolia did not approve the plan at first, Ulaanbaatar later recognised the significance of the Russian company as the country’s primary fuel supplier and subsequently signed contracts that were favourable to Rosneft.

The economic, geographical and historical ties between Mongolia and Russia have made it difficult for Mongolia to resolve its dependency on Moscow. As Mongolian political leaders and diplomats have a strong desire to preserve their relationships with Russia, Mongolia has chosen to remain politically neutral about the war in Ukraine by repeatedly refusing to support resolutions of the United Nations General Assembly that condemn Russian acts of aggression.

Unlike Mongolia, former Soviet Union countries such as Kyrgyzstan, Georgia and Armenia rely on Russia for trade, investment, tourism and remittance. International sanctions on Russia have led to a rise in Russian capital flows, foreign trade and tourism to these countries, deepening their dependence on Russia.

The war’s risk to the Mongolian economy is limited to its dependency on imported petroleum products. But heavy international sanctions on Russia have made it difficult for Mongolia to maintain its petroleum imports. To reduce the cost of importing petroleum products and to stabilise its supply, diesel fuel has been exempted from Mongolia’s excise tax until July 2023. After prolonged discussions with Russian suppliers, Mongolian authorities have secured a steady supply of major petroleum products until 2027.

The war is also affecting Mongolia’s economy through other channels, particularly through global inflation. Transportation costs have increased and the supply of major consumer products such as wheat and oil have been disrupted. The International Monetary Fund anticipates that rising global prices will continue to hurt the Mongolian economy.

Transportation costs have increased due to significant COVID-19-related expansionary fiscal and monetary policies as well as China’s zero-COVID policy, which has contributed to a soaring 16.1 per cent inflation in June 2022, the highest level since 2014. Of this, rising import prices — especially of food and petroleum products — accounted for 9.2 per cent.

Rising fuel and food prices have increased import costs, putting additional pressure on Mongolia’s balance of payments. The value of petroleum imports grew by 52 per cent in 2022, while the volume rose by only 3.9 per cent. This adversely impacted Mongolia’s foreign exchange reserves — between February and December 2022, foreign exchange reserves decreased by 7.7 per cent and the Mongolian togrog depreciated by 20.1 per cent. In response to rising inflation, the Bank of Mongolia tightened its monetary policy throughout 2022 and increased the policy rate to 13 per cent, while fiscal policy remains expansionary.

The war is affecting not only the national economy but also individual households. Surging inflation has put more pressure on low-income and welfare-dependent households. In July 2022, the lowest income group faced 18.2 per cent inflation while the highest income group faced only 12.9 per cent (UNDP, forthcoming).

The groups that have suffered the most from price increases are single parents with three or more children and households that have members with disabilities or who need special care. Inflation pressure on female-headed households is 1–2 per cent higher than on male-headed households (UNDP, forthcoming).

As inflation intensifies, pensions, welfare incomes and wages remain unchanged. Households are increasingly using their savings and taking out new loans, which leads to a further deterioration in household livelihood. This impact is especially pronounced for vulnerable groups. For herders and farmers, rising fuel prices have notably increased their cost of business and supply. As a result, rural households are also reducing purchases of essential products, selling more livestock and taking out loans.

The Russia–Ukraine war and the ongoing impact of COVID-19 are also causing significant hardship to small- and medium-sized enterprises that face supply disruptions, human resource shortages and declining demand.

As transportation through Russia is significantly delayed and import and transit from China has slowed, businesses in the manufacturing and trade sectors face significant complications. The rapidly rising prices of raw materials is hurting enterprise operations across the board. This is especially true for businesses in remote areas that greatly depend on transportation.

With the global economic fallout from Russia’s protracted invasion of Ukraine showing no sign of ceasing, Mongolian families, farmers and businesses will continue to feel the squeeze.

Oyuntugs Davaakhuu is a researcher at the Economic Research Institute, Mongolia.

Tuvshintugs Batdelger is Director at the Economic Research Institute, Mongolia and Associate Professor at the National University of Mongolia.

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