Today's Mongolia is a paradox. Endowed with abundant natural hydrocarbon wealth, the country has grown fast feeding the factories of its energy-hungry southern neighbour, China. At the same time, it is precariously dependant on Russia for much of its own energy supply. Addressing this insecurity is therefore high on the government’s geostrategic to-do list.
Mongolia’s weakness is primarily a lack of processing capacity. Despite producing around 8m barrels of crude annually, it imports 97% of processed hydrocarbon needs. In 2017, around 2 million tonnes of this came in from Russia. The construction of its first oil refinery, which commenced in June this year, will prove an important first step.
Financed by a $1billion loan from the Export-Import Bank of India, the refinery has a planned capacity of 1.5m barrels per year. It is expected to be completed in 2022. With rapidly growing petroleum demand (in the last decade, diesel demand has grown by 12% annually), this will put the country well-towards self-reliance.
However, the implications of the project stretch beyond geostrategy. Developing domestic processing capacity aligns closely with the government’s push to diversify the economy away from its dependance on metal and coal extraction. Mongolia was hit hard by sliding global commodity prices, and the expansion of non-extractive industries is central to the country’s future economic stability. The Ministry of Finance believes that up to 30 types of manufacturing could be supported by the refinery as a domestic source of processed oil products. As well as diesel and petrol, the Saynshand refinery will provide a range of important petroleum-based products and additives.
Greater industrial capacity will be crucial for a country that has been historically dependant on raw material exports to China. Domestic industrial appetite for these products will mean that the mining sector is less exposed to fluctuations in Chinese demand. This won’t be achieved overnight - but it marks the start of an important phase in the country’s development. The reallocation of foreign exchange away from rouble-denominated petroleum imports will mean that the country is less exposed to exchange rate risk, stabilising the environment for industrial development.
Additionally, the project intersects with existing infrastructural initiatives. Alongside side the refinery, the Indian soft loan was extended with the aim of improving the landlocked country’s transport network. $246 million of the loan will be invested in oil pipelines, and state owned firms will extend road and rail networks around the refinery to meet the Trans-Mongolian line that runs through the town of Saynshand.
Despite being motivated primarily by concerns over energy insecurity, the project will bring windfalls to Mongolia’s all-important extractive sector. First, more manufacturing will mean that there is a domestic market for mining products. It has the potential to push key products like copper up the value chain, allowing the industry to develop beyond pure export to China. This will insulate both the mining sector and the wider economy.
In oil, domestic processing facilities and viable downstream demand may intensify exploration efforts upstream. The need to meet existing export commitments to China and demand for oil derivatives in a nascent manufacturing industry should drive Mongolia to increase its crude production. Of Mongolia’s 332m tonnes of proven oil reserves, only 42.6m are technically extractable at the moment. Increasing this extractive capacity will provide major impetus to the crude oil sector in the country.
The Saynshand refinery represents progress both strategically and economically. Miners and investors alike should watch with interest.
