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Mongolia: Caught in Russia’s crossfire

Authors: Teo Chuan Hao, Jester and Chong Le Kai

Research Head: Aces Low Ying Xuan





Introduction


Since the 20th century, Mongolia and Russia have had close ties with one another. More than a century ago, Mongolia and the Union of Soviet Socialist Republics (USSR) signed a Treaty of Friendship, establishing a robust relationship between both parties. Even after the fall of the Soviet Union, Russia has gone to great lengths to preserve the bond with Mongolia. As a result of their shared history, Mongolia’s economy has grown reliant on Russian trade with 28.23% (World Bank) of its exports being flown into Russia. Besides Russia, China’s relations with Mongolia can not be discounted when discussing its geopolitical situation. Since the 1990s, China has became Mongolia’s largest trading partner. A staggering 88.88% of imports in Mongolia come from China while 33.24% (World Bank) of Mongolian exports are consumed by mainland Chinese. With recent development between Russia and Ukraine, Mongolia has been forced into a dilemma. Should they observe silence while their longtime partner wages war, killing innocents to accomplish the Kremlin’s goals? Or should they condemn Putin’s regime in order to appeal to the international community? If they desert the Russian Federation, will they be cornered into a vulnerable state of submission to China? How can they further their plan to pivot away from China and Russia, and improve relations with “third neighbours” such as the United States, Japan and Korea(Campbell, 2021)? Regardless of their choice, it seems inevitable that the costs to Mongolia outweighs any potential benefits. In this essay, we discuss the various economic and political effects of Russia’s war on Mongolia and the options available given its precarious geopolitical climate as a small nation sandwiched between two domineering neighbours.


Economic implications on Mongolia


Since the commencement of Russia’s “special military operation” in Kyiv, various countries have responded to the invasion with economic sanctions in hopes of crippling the Russian economy by cutting off financial services, assets and essential commodities. Since February 27, the European Union (EU), United Kingdom (UK), United States (US), South Korea and Japan have curbed Russian access to the Society for Worldwide Interbank Financial Telecommunication (SWIFT), an international payment system (Funakoshi, et al., 2022). SWIFT is an essential communication system used by Russian banks for financial transactions. This indirectly affects Mongolia as most of its foreign trade is reliant on Russian banks that use SWIFT, resulting in Mongolia’s inability to receive and make payments to Russia.


Coupled with the effects of Russia’s inability to access SWIFT, it will be nigh impossible for Mongolia to maintain the same level of trade activity with Russia. Currently, seven Russian banks have been banned from SWIFT and this means that individuals and companies using those banks will have a harder time borrowing or investing money across Russian borders, receiving cash for exports and paying for imports (Papatolios, 2022). Thus, Russia will not be able to continue buying goods and services from Mongolia due to these sanctions. This will exacerbate Mongolia’s trade deficit that currently stands at USD16.9 million in January 2022. With the end of the war nowhere in sight, prolonged barriers to SWIFT may prove to be a dire threat to Mongolia’s export-reliant economy. Let us take a look at how the banning of Russian access to SWIFT has affected Mongolia’s economy. As seen from Figure 1 below, Mongolia’s exports have experienced a sharp decline from 1306.3 million in November 2021 to 417.3 million in December 2021. This phenomenon can be attributed to China’s zero (Graceffo, 2022) COVID policy. Since China is Mongolia’s largest trading partner, closure of Chinese borders will significantly hamper its export numbers. One has to consider the dip in Chinese demand (Erdenebileg, 2017) for Mongolian exports due to economic restructuring as well.




Figure 1: Exports in Mongolia (in USD million) from February 2021-January 2022

Source: Trading Economics


Another effect on Mongolia’s economy would be the rising inflation. In terms of trade, Mongolia is heavily dependent on energy (Stanway, 2022) from Russia. Mongolia sources 92% of its energy demand, more than 1.5 million tonnes of oil products (Reuters, 2018), from Russia, making it a key trading commodity between both countries. As a result of the war, several influential oil traders and companies such as Shell and ExxonMobil have exited the Russian market. Due to this, Russia is experiencing a sudden and drastic supply shock. This supply chain disruption heavily cripples Mongolia’s mining, agriculture and construction industries (Omondi, 2019) which are capital intensive and thus have an enormous appetite for energy. As Mongolia’s economy continues to rebound from the pandemic, its demand for oil rises despite the inability of Russia to meet its demands. This forces Mongolia to import Russian oil at steep prices, exacerbating cost-push inflation as proven by Figure 2, where the annual inflation rate jumped to 14.2% (Trading Economics, 2022) in February 2022. As firms are unable to absorb the rise in cost of production to maintain profit margins, they have no choice but to reflect the spike in cost of production in the prices consumers have to pay for goods and services in Mongolia.




Figure 2: Annual inflation rate in Mongolia from March 2021-February 2022

Source: Trading Economics


Political considerations


Given the strong diplomatic relations Mongolia has with Russia and the huge reliance on Russia for fuel (Refined Petroleum ($696M), Iron Railway Products ($54.5M), and Wheat ($44.9M)), Mongolian Officials such as Amarsaikhan Sainbuyan, Mongolia's deputy prime minister, and Battsetseg Batmunkh, Mongolia's foreign minister, have spoken to the press about Russia's invasion of Ukraine. Both did not condemn Russia’s action and instead recognised the conflict in Ukraine as a military operation.

As Mongolia has a semi-presidential system, the president has significant power over the prime minister and cabinet (Dierkes & Lkhaajav, 2021). Just like Mongolia’s former President, Battulga, the current president, Khurelsukh, noted that Mongolia has pro Eastern sentiments for both Putin’s foreign policy vision of the Greater Eurasian Partnership and Chinese President Xi Jinping’s Belt and Road Initiative (Lukin et. al, 2021). Khurelsukh also mentioned the possibility of a free trade agreement between Mongolia and the Russia-led Eurasian Economic Union. Hence, Mongolian Politicians are unlikely to rustle Putin or Xi’s feather given the close diplomatic relations and oncoming economic transactions and partnerships that would bolster Mongolia’s economic growth and trade.

On the other hand, Mongolia describes the United States as its most important “third neighbour.” In 2019, the United States and Mongolia upgraded their bilateral relationship to a Strategic Partnership. Not to mention Mongolia’s involvement in NATO, which was one of the tenets that led to Russia’s invasion of Ukraine. This almost resembles a weighing scale where Mongolia is trying to carefully thread the needle by maintaining relations with both Western and Eastern superpowers.

However, with increasing awareness and an outraged international community, Mongolia might be forced to take a side. This would place intense pressure on the ruling party, Mongolian People’s Party, who has for years, refused to condemn acts of aggression from their larger neighbours, China and Russia (Encyclopaedia Britannica, n.d.). Furthermore, public sentiments against Russia and China are growing. China has always been viewed as a threat by Mongolia, with only 1.2 percent of Mongols perceiving them as a desirable partner (Campbell, 2021). In fact, there have been protests in Ulaanbaatar owing to China’s revamped policy of changing the language of instruction in Inner Mongolia from Mongolian to Traditional Chinese (Helbig, n.d.), proving a threat to the sovereignty of Mongolian Culture and mother tongue. On the other hand, an increasing Russian influence in Mongol society such as the wavering of Mongolian debt and underwriting Mongolia’s lack of funds for 50% share of Ulaanbaatar's railroad venture (Helbig, n.d.) had led Mongol politicians to be mindful of the possible reciprocations and consequences of accepting Russia’s help. This is to ensure that they would not compromise long term sovereignty for short term gains, which could lead to Mongolia playing second fiddle in the face of their Eastern neighbours.

As the MPP controls the legislature and the executive, this raises further concern about the direction and viability of Mongolian Democracy (Smith, 2021). Despite the MPP-led government implementing substantial structural changes in governance, all eyes will be on MPP’s foreign policy amidst the Russia-Ukraine crisis. As much as the ulterior motives of Russia and China might seem glaring to Mongolia, little can be done on the side of Mongolia due to the heavy dependence on trade with Russia and China. Opposing these Eastern Giants would ostensibly mean a sharp decline in standard of living, goods and services and jobs in general. Given the MPP’s Socialist background, the chances are that ties with China and Russia will likely remain intact and unprovoked.

Conclusion


Mongolia is stuck between a rock and a hard place. Russia’s war on Ukraine serves as a warning to Mongolia for its future. If Mongolia continues to rely on its neighbours for trade, as it did in the last century, it must be ready to brace for economic and political instability that is concomitant with their support. For years, tensions existed between the trio. In 2019, Russia signed a permanent treaty of friendship (EurAsian Times Desk, 2019) with Mongolia that strengthened political, economic (EIU, 2022), agricultural and cultural relations in response to growing Chinese influence in recent years.


On the other hand, while Mongolia has made attempts to pivot to “third neighbours” in the US, Japan and Korea, much of its economy has struggled to shift its focus westward due to its comparative advantage in agriculture and livestock. Coupled with its landlocked geography, Mongolia must endeavour to transition to sectors that are less labour-intensive to maintain its competitiveness against China.





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