Managing revenues from mining Experience of Mongolia Tumendelger Baljinnyam

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1 Managing revenues from mining Experience of Mongolia Tumendelger Baljinnyam Specialist, Research and Analysis office, Division of Sector Development Policy and Regulation, National Development Agency, Mongolia

2 Mongolia s economy and mining industry, 2015 Area (in sq. km) - 1,564,120 (ranked in 19 th ) Population million (June, 2016, NSO) population growth rate is 2.2%. World s most sparsely populated country 2 people per sq.km 83% of overall exports - copper and iron ore, coal, crude oil and other mineral export Minerals Estimated Mineral reserves Measuring unit Reserves as 2016 Copper ore Mln ton 57 Coal Bln ton 37.2 Iron ore Bln ton % of overall FDI - mining extraction, geosynoptics and heavy manufacturing 63% of industrial products from mining sector 18% of GDP Around 40% of total government revenues from mining sector There are 3,871 valid licenses. - 2,314 exploration licenses in 8.6% of total territory - 1,557 exploitation licenses in 0.8% of total territory Gold Ton 2500 Zinc Mln ton 1.7 Felspar Mln ton 48.3 Uranuim Ths ton 197 Crude oil Mln ton 362.2

3 Mongolia s economy and mining industry Mining experts estimate that the country possesses as much as $1.3 trillion worth of over 80 different minerals in at least 6000 known deposits. That, in theory, works out to over $333,333 for every man, woman and child in the country. Mongolia s vast mineral resources undoubtedly have a potential to make a significant contribution to country s economic and social development, but only if they are developed and managed appropriately. The challenge for the government is to get the right mix of policies that can to succeed in converting the mineral resources into an inclusive growth path that spreads prosperity to all Mongolians and all provinces (aimags, soums) across the country. In order to sustainably reduce poverty and mitigate environmental degradation, it is crucial to include poverty and environmental issues into development policy documents and ensure synergy between such documents. In addition to social welfare type of activities, productive activities designed to create employment and generate incomes need to be included under poverty reduction actions and expenditures.

4 Natural resources revenue sharing in Mongolia Natural resources revenue sharing is a concept that has gained much attention in Mongolia over the last decade. Relevant laws and policies were developed and different revenue sharing schemes were tested by the Government of Mongolia with varying degrees of success over the past years. There are a number of studies in Mongolia which assessed the socioeconomic impact of these initiatives and programs, which focused on their implementations on whether these programs have been implemented in accordance with the related laws and regulations. However, there are no studies that assess whether the design of the system is optimal. Thus, there was a need to study questions such as: What are the mechanisms of allocating extractive industry revenues among local governments? How optimal is the allocation mechanism of revenues from the extractive industry, especially that of Local Development Funds? In this regard, UNDP-UNEP Poverty Environment Initiative and UNDP Bangkok Regional Hub have initiated a Study, recognizing that good management of natural resource revenues as an important contribution toward poverty and environmental issues.

5 Extractive Industries Revenue Collection and Distribution System (C/prof/15/019 review study) This study was conducted with the funding from UNDP Bangkok Regional Hub and UNDP-UNEP Poverty-Environment Initiative (PEI), implemented by the Mongolian Ministry of Finance. Research was carried out by a national consulting company Gerege Partners LLC. The main objective of the study was to analyse extractive industry revenue sharing and distribution system in Mongolia including extractive industry revenue types and magnitudes, collection mechanisms and vertical and horizontal distribution of extractive industry revenues at national and sub-national levels. Also, the study reviewed whether extractive industry revenues has any impact on reducing poverty and environmental degradation;

6 Legislation LEGISLATION ON ADMINISTRATION, BUDGET, TAXES, MINING REVENUES AND SPECIAL FUNDS The Constitution of Mongolia The law on the territorial and administrative units, and their Governing bodies The budget law The fiscal stability law The general taxation law The law on income tax of economic entities and organizations The law on gasoline and diesel fuel taxation The value added tax law The law on social insurance The law on immovable property tax The law on customs tariffs and taxes The law on Government special funds The law on the Human development fund The law on stamp duty LAWS ON MINERAL RESOURCES, PETROLEUM, AND INDIVIDUAL AND ENTERPRISES OPERATING IN THIS SECTOR The law on mineral resources The law on special permits of business entity The law on sending labor force to abroad and receiving labor force and specialist from abroad The investment law The law on common mineral The petroleum law The law on customs The law on nuclear energy LAWS ON ENVIRONMENT, WATER AND LAND The law of environmental protection The law on Environmental Impact Assessment The law on land The law on land fees The law on subsoil The law to prohibit mineral exploration and mining operations at headwaters of rivers, protected zones of water reservoirs and forest The law on water The law on air pollution fees MORE THAN 30 LAWS BEING ENFORCED RELATING TO THE STUDY

7 Amendments and changes on legislation

8 Extractive Industry revenue contribution to the State budget (million MNT) Where EI revenues came from? /2014/ Year EI revenue contribution to the budget Total budget revenues Percentage (%) , , , , , , , Commercial enterprises operating in the EI in Mongolia pay over 20 types of taxes, mineral royalties, fees and charges to the state and local budgets. Royalties 35.7% Others 18.3% VAT 7.4% Corporate income tax 12.3% Social and health insurance 7.6% Petroleum receipt 18.7%

9 Where Extractive industry revenues collected? State budget Local budget Human development fund Social insurance fund Total Social insurance fund 7.9% Human developme nt fund 23.7% Local budget 7.4% State budget 61.0% EI revenues (%), 2014 Most of the EI revenues are mixed with similar types of revenues from other sectors in the big bowl of the government budget so that it is impossible to trace their use (i.e., to determine what are they spent on). However, the use of mineral royalties and petroleum receipts in recent years can be traced. They are the main revenue sources of the HDF and the General Local Development Fund (GLDF)

10 Extractive Industry revenue distribution system Between 1992 and the end of 2001, mineral royalties went to local government budgets, while from 2002 until 2006, they were shared by the state and local government budgets. During this time, the shares going to central and local governments were not specified in in the law or regulations. Since then, the development of the mining industry intensified and hence the allocation mechanism has been clearly legalized. The allocation of EI revenues in was derivation-based, so that aimags with more developed EI such as Umnugobi and Orkhon received more revenues than others. However, in the mechanism was changed and became more need-based through the allocation of GLDF. From 2016, the allocation mechanism has become again more derivation-based.

11 EI revenue distribution models Extractive Industry revenue distribution system The following EI revenue distribution model is being practiced in Mongolia: 1. No specific allocation mechanism of EI revenue EI revenues are paid to the central budget and HDF, and spent in a centralised way. This excludes direct taxes and payments paid to GLDF and aimags/soums. 2А. Specific allocation mechanism of EI revenue - needs-based budget transfers GLDF (funded by 5% of mineral royalties, 25% of VAT etc., ) 2B. Specific allocation mechanims of EI revenue - derivation-based budget transfers Allocate more revenues to localities with extractive industries (5% of mineral royalites in GLDF) 3. Specific allocation mechanims of EI revenue - via collection of EI taxes Direct taxes and payments from extractive companies to aimags/ soums 4. Direct transfers. Direct financial transfers from extractive companies to local governments and communities

12 Extractive Industry revenue distribution system Today. Mongolia s Extractive Industry revenue allocated in: - Human development fund - General local development fund and Local development funds - Community development agreements

13 Human development fund 1, Total expenditure and net lending Total revenue Tax revenue While the Child Money Program and the Human Development Fund are tools for allocating a part of EI revenues collected by the government directly to citizens. The Targeted Child Money Program (Jan Jun 2006) was the first of several schemes which were set-up and implemented by the Government of Mongolia to redistribute mining revenues since Subsequent programs included Universal Child Money Program (Jul 2006 Dec 2009), Human Development Fund (universal payments to the whole population of Mongolia in Feb Jun 2012), Child Money Program (Oct 2012 onwards). HDF revenues and expenditure (MNT billion) Of the EI revenues, 23.7 percent was allocated to the Human Development Fund (HDF), a type of a wealth fund in 2014.

14 Local development funds The Local Development Fund initiative is a different policy instrument of delivering a part of the EI revenues to individuals, by transferring resources from the central government to local governments. A Local Development Fund (LDF) initiative has been implementing since The LDFs have generally financed one-time and temporary projects and programs with limited impact on creating permanent jobs and supporting sustainable development. In addition, due to lack of guidance (regulation), projects funded by the LDFs tend to be less focused on poverty reduction and environment only percent of the total is spent on projects more or less related to poverty reduction and environmental protection. This shows a room for improvement in regulations of the LDF initiative. The current method of allocating the GLDF among the LDFs has several drawbacks. In particular, the Local Development Index, used as one of the criteria for allocation, has not been updated since In terms of the GLDF, more than 70 percent of the revenues were contributed by 25 percent (reduced to 10 percent since 2016) of domestic VAT payments, and over 10 percent of the GLDF was contributed by mineral royalties.

15 Local development funds Within 3 years of implementation of LDF initiative, MNT 468 billion was allocated to aimag and the capital city LDFs. Ulaanbaatar city received the largest share equalling MNT 75 billion; Gobisumber aimag received the smallest amount (MNT 13 billion); All other aimags were allocated between MNT 15 to 23 billion. In terms of LDF per capita: Ulaanbaatar city received 55 thousand tugrugs Gobisumber got 845 thousand tugrugs LDF amounts allocated to aimags and the capital city in (per capita, MNT thousand) < >300

16 Community development agreements Another type of EI revenues is Community Development Agreements (CDA), although it is not strictly a type of fiscal revenues.189 companies in the extractive industry established 435 CDAs with local authorities in Law on Minerals (2006) states A license holder shall work in cooperation with the local administrative bodies and conclude agreements on issues of environmental protection, mine exploitation, infrastructure development in relation to the mine site development and jobs creation. The government's authority must approve this agreement. Number of EI companies that established agreements with local governments or communities (duplicates possible) Total number of contracts and agreements Of which: Cooperation agreements Social responsibility agreements Environmental protection agreements Other

17 Lessons learnt and main challenges 1. National policies and laws need to be stable. Lack of stability makes difficult or impossible to evaluate economic, social or environmental impacts of such measures. 2. LDF and other EI revenue sharing mechanisms should be planned and implemented in line with the SDG, SDV and action plans of the national and local governments. 3. Need to build capacity of local governments, elected representatives and citizens. The lack of capacity of stakeholders on identifying needs and prioritizing critical development issues results in one-off, fragmented and ineffective uses of funds rather than for development. 4. The objectives, importance and implementation methods of any project need to be clearly explained to local citizens. Due to lack of understanding, there is some conflict between local citizens and project implementers. 5. Possibly due to insufficient requirements set in LDF guideline on addressing poverty and environmental issues, only around percent of LDFs were spent on such projects and initiatives. Rather, it should be spent on the basis of long-term objectives of the local development indicators. 6. LDF has been very popular with local governments and citizens and achieved a lot within its three years of implementation. It enabled significant practicing of in participatory decision making and inducing local initiative, strengthening self-governing capacity of local governments, providing financial responsibilities and giving confidence.

18 Lessons learnt and main challenges 7. The amount of LDF allocated to one soum may not be enough to finance medium and large-scale projects. To ensure long-term benefits of the GLDF, the government can consider an alternative allocation system whereby instead of allocating small amounts of funding to each soum every year, greater amounts can be distributed to soums once every 2-3 years. 8. The LDF guideline needs revision. In its current form, it is inflexible and limits the use of LDF on long-term developmental projects especially related to social and environmental issues. LDF expenditure decisions should be aligned with longer term development strategy and action plans of individual soums and aimags and also be in synergy with SDV and plans. 9. Soum level governments need capacity building on negotiating skills with higher level government authorities and mining companies to maximize benefits of financial dealings. This can generate financial payoffs to soums. 10. All types of revenues collected in accordance with CDAs should be used to reduce actual and potential negative socioeconomic and environmental impacts, to compensate for damages to local communities caused by extractive activities and to finance other projects supporting development.

19 THANK YOU FOR YOUR ATTENTION