Mongolia’s rails are ready to supply Russia and China

After a tumultuous and contested decade of politicking around the potential security implications of expanding its freight logistics to China, Mongolia is set to complete three critical rail lines by the end of this year. These developments will have a massive impact on commodity markets, allowing China and Russia to look inward for trade, especially in bulk commodities like coal and metals, making both countries that are more energy secure and less subject to sanctions pressure.

Given Mongolia’s landlocked position, the country’s economy naturally requires strategic connectivity and commercial ports with its neighbors. To date, Mongolia shares 13 commercial ports with China, mainly exporting coal, iron ore and concentrated copper. For decades, Mongolia has relied on former Soviet rail systems and highways for its exports, using trucks for most volume trade. Currently, Mongolia is far from its export capacity due to basic infrastructure constraints.

During Mongolian Prime Minister Oyun-Erdene Luvsannamsrai’s visit to Beijing in February, the two governments finalized crossing points between Mongolia and China for three major railway projects, all stretching from the mineral-rich South Gobi to China. The 416.1 kilometer (or 259 mile) Tavan Tolgoi-Zuunbayan railway, which has the capacity to carry an additional 15 million tons of freight, is expected to be completed by October. Tavan Tolgoi-Gashuunsukhait will provide 30 million tons of freight, and the Zuunbayan-Khangi line would be 226 kilometers (or 140 miles) long and reach the Chinese port of Mandal. This line has already started in March, with the objective of exporting around 20 million tons.

After a tumultuous and contested decade of politicking around the potential security implications of expanding its freight logistics to China, Mongolia is set to complete three critical rail lines by the end of this year. These developments will have a massive impact on commodity markets, allowing China and Russia to look inward for trade, especially in bulk commodities like coal and metals, making both countries that are more energy secure and less subject to sanctions pressure.

Given Mongolia’s landlocked position, the country’s economy naturally requires strategic connectivity and commercial ports with its neighbors. To date, Mongolia shares 13 commercial ports with China, mainly exporting coal, iron ore and concentrated copper. For decades, Mongolia has relied on former Soviet rail systems and highways for its exports, using trucks for most volume trade. Currently, Mongolia is far from its export capacity due to basic infrastructure constraints.

During Mongolian Prime Minister Oyun-Erdene Luvsannamsrai’s visit to Beijing in February, the two governments finalized crossing points between Mongolia and China for three major railway projects, all stretching from the mineral-rich South Gobi to China. The 416.1 kilometer (or 259 mile) Tavan Tolgoi-Zuunbayan railway, which has the capacity to carry an additional 15 million tons of freight, is expected to be completed by October. Tavan Tolgoi-Gashuunsukhait will provide 30 million tons of freight, and the Zuunbayan-Khangi line would be 226 kilometers (or 140 miles) long and reach the Chinese port of Mandal. This line has already started in March, with the objective of exporting around 20 million tons.

Since 2009, Mongolia has taken a big step forward in improving its national infrastructure. These infrastructure goals have played a major role in Mongolia’s efforts to diversify its mining-based economy. Between 2016 and 2020, in a country with previously poor road networks, the Mongolian government was able to build a road network that connects all 21 provinces to Ulaanbaatar, the capital.

In an effort to increase Mongolia’s exports, in March the Mongolian cabinet passed a resolution to restart the long-delayed construction of the Choibalsan-Khuut and Khuut-Bichigt railways, totaling 426.6 kilometers (or 265 miles), as well as the 1,255- kilometer (or 800 miles) Artssuuri-Shiveekhuren-Nariinsukhait Railway. These railways have been under discussion since 2013. To expedite the construction of these railways, Mongolia’s public procurement system announced a tender for the concession of the Choibalsan-Khuut railway megaproject.

This would provide greater connectivity to western Mongolia which is resource-rich but less populated and has low logistical interconnectivity. The Ministry of Mines and Heavy Industry recently closed its application dates for domestic and foreign investors to be part of this megaproject.

During the 2022 Mongolian Economic Forum, Oyun-Erdene highlighted Mongolia’s efforts to increase its commodity exports, especially coking coal and copper. The government’s plan for the partial privatization of state-owned enterprises aims to attract foreign direct investment in energy, border ports and industrialization megaprojects, with an investment target of 150 trillion tugrik (or 48 billion dollars). According to S&P Global Commodity Insights, “Mongolia is a major supplier of metallurgical coal and copper concentrates to China, with most trade occurring by truck. Mongolian truck suppliers in 2021 faced severe logistical challenges when transporting shipments from land ports to China due to pandemic-related restrictions at border crossings.

The railways are set to solve these logistical challenges, increasing exports to between $14 billion and $17 billion in 2025-2028 and $20 billion by 2029.

Assuming a coal price of $200 a ton, this translates to an increase of 65 million tons in exports, or $13 billion in exports for coking coal alone in a country whose total exports in 2020 were only $8.47 billion. And that would mean a big expansion of Mongolia’s tax revenue from mining royalties and corporate taxes. Conservatively, that would add $800 million in royalties and hundreds of millions of dollars in tax revenue based on the financials of publicly traded mining companies and the prevailing 6% royalty rate.

This represents a structural change for Mongolia’s trade balances and debt service. If this happens, it will raise the question of whether Mongolia will need a sovereign wealth fund to stabilize its currency in the face of all these financial flows, which could otherwise end up inflating local asset markets or being misallocated. Managing this fiscal boom will be important because global decarbonization goals imply that demand for coking coal will begin to decline by the mid-2030s, according to most scenarios of the Intergovernmental Panel on Climate Change. climate.

There’s also the big question of whether China will actually need or want all that coal. China’s recent climate and steel targets already imply limited growth in demand for coking coal. China has publicly stated that it plans to peak coal emissions by 2025 and steel emissions by 2030, as well as reduce the share of steel production in oxygen blast furnaces, which uses coking coal, switching to the production of electric arc furnaces, which is not the case. Many analysts expect this to be achieved sooner than expected. A substantial and rapid expansion of Mongolia’s exports could engulf the remaining sector.

At the same time, the expansion of the Mongolian railway is a taste of the current Sino-Russian infrastructure plans. The first Sino-Russian cross-border railway is expected to be completed in August, at a cost of $355 million. Energy connectivity between Russia and China illustrates Mongolia’s energy vulnerability, further revealing why it is strategically interesting for Mongolia to be included in such a major development.

Additionally, the two countries have other major cooperation projects, such as the Power of Siberia 2 gas pipeline. which were previously destined for Europe, to be re-routed to China via a Gazprom gas pipeline built in 2019.

In response to Sino-Russian energy cooperation, Mongolia entered into a memorandum of understanding in 2019, followed by a meeting between Russian President Vladimir Putin and Gazprom CEO Alexey Miller, during which Putin said that Russia had no political objection to the project. Although this infrastructure expansion plan has the potential to impact the energy sector in Northeast Asia, the project will likely struggle to complete on its scheduled date of 2025 with the Russian conflict -Ukrainian and sanctions preventing the supply of key equipment. If the war ended or trade normalized, its completion would otherwise lead to a new redirection of Russian exports from Europe to China, permanently.

Additionally, the protracted pandemic and China’s restrictive COVID-19 policies pose a major challenge for Mongolia. To date, only five commercial ports are operational. According to the Ministry of Mines and Heavy Industry, between April 15 and April 21, Mongolia exported 300 containers of coal, totaling 3,342,000 tons of coal exports to China.

This will have a significant impact on China’s reliance on maritime sources of material and will undoubtedly affect China’s thinking on maritime security. If China does not need open sea lanes for food or fuel in the East China Sea, then China’s ability to absorb the kind of trade stoppages now seen in the Black Sea will be significantly higher, with implications for Taiwan’s security. China could fight much longer and harder in a possible Taiwanese conflict if it were not faced with constraints on importing food or energy fuel due to supplies from Russia and Mongolia, whereas Taiwan would have still needs undisputed maritime logistics to keep its electricity grid operational and its population fed.

Expanded infrastructure cooperation between China and Russia shows that despite talk of de-globalization, trade is growing between countries and regions with aligned geopolitical interests and shrinking between those with similar values ​​and interests. divergent. Mongolia may be a democracy, but its geographical position already makes it a key transit point for these new autocratic trade routes.