Presented by the MOEF, Republic of Korea

2018/19 KSP Policy Consultation Report Mongolia Strengthening Economic Development Planning and Infrastructure Funding for Mongolia Government Publications Registration Number 11-1051000-000943-04

2018/19 KSP Policy Consultation Report

Strengthening Economic Development Planning Mongolia and Project Performance Assessments in Mongolia 2018/19 KSP Policy Consultation Report

Project Title Strengthening Economic Development Planning and Infrastructure Funding for Mongolia Prepared for The Government of Mongolia In Cooperation with Ministry of Finance (MoF), National Development Agency (NDA), Development Bank of Mongolia (DBM)

Supported by Ministry of Economy and Finance (MOEF), Republic of Korea Prepared by Korea Development Institute (KDI) Project Director Sanghoon Ahn, Executive Director, Center for International Development (CID), KDI Youngsun Koh, ‌Executive Director, Global Knowledge Exchange & Development Center, Former Executive Director, CID, KDI Project Manager Changjae Lee, Visiting Senior Fellow, CID, KDI Project Officer Jinha Yoo, Senior Research Associate, Division of Policy Consultation, CID, KDI Jun Hee Kim, Senior Research Associate, Division of Policy Consultation, CID, KDI Senior Advisor Seok Dong Kim, Former Chairman of Financial Services Commission Principal Investigator Myung Ho Park, Professor, Hankuk University of Foreign Studies Authors Chapter 1. Myung Ho Park, Professor, Hankuk University of Foreign Studies Belguun Enkhmandal, Specialist, MoF Ichinnorov Luvsanvandan, Officer, MoF Chapter 2. Sung Ho Choi, Professor, Kyonggi University Erdenebayar Davaasambuu, Director, NDA Sarantuya Munkhtur, Officer, NDA Chapter 3. Changyong Choi, Professor, KDI School of Public Policy and Management Sukhdelger Sosorbaram, Specialist, MoF Chapter 4. Jongyearn Lee, Professor, KDI School of Public Policy and Management Ochir Lkhagvasuren, Chief Executive Officer, DBM Chapter 5. Younghan Lee, Professor, University of Seoul Takkyung Kim, ‌Deputy Director, Division of Public-Private-Partnerships, Public and Private Infrastructure Investment Management Center, KDI Dulguun Ganzorig, Asset Manager, DBM English Editor Institute of Culture and Arts Translation

Government Publications Registration Number 11-1051000-000943-01 ISBN 979-11-5932-455-0 979-11-5932-438-3 (set) Copyright ⓒ 2019 by Ministry of Economy and Finance, Republic of Korea 2018/19 KSP Policy Consultation Report Strengthening Economic Development Planning and Infrastructure Funding for Mongolia Preface

Knowledge is an essential ingredient in a country’s economic growth and social development. Of particular importance is government capacity to formulate and implement policies. The global society is making various efforts to promote knowledge sharing between countries and improve their policy capacity to tackle development issues and enhance global prosperity.

Indeed, knowledge laid the foundation for Korea’s unprecedented transformation from a poor agro-based economy into a modern industrialized nation with an open and democratic society. Technology transfer from abroad and educational investment helped expand the domestic knowledge stock and made this transformation possible. The Korean government could also accumulate invaluable practical lessons not found in a conventional textbook through the course of development.

The Ministry of Economy and Finance (MOEF) of Korea introduced the Knowledge Sharing Program (KSP) in 2004 to share Korea’s development experience with the international community through joint research, policy consultations, and capacity-building activities. Since its inception, the program has played a vital role in supporting socio-economic development of partner countries around the world.

Korea Development Institute (KDI) has participated in the KSP since the program’s launch and has been working with more than seventy foreign countries and organizations. KDI, Korea’s leading think-tank with an extensive experience in policy research, has provided solutions to the challenges that partner countries face in a variety of fields, ranging from industrial development to public-sector reform. In the 2018/19 KSP, KDI carried out policy consultation and capacity-building projects with twenty-two partners including three new participants— Belarus, Serbia, and the ASEAN Secretariat.

Among these meaningful projects for mutual learning, this one was initiated by the Ministry of Finance (MoF) with the aim of “Strengthening Economic Development Planning and Infrastructure Funding for Mongolia.” Upon the request of the MoF, the MOEF and KDI organized a research team consisting of Mongolian and Korean experts. The team conducted in-depth analysis of internal and external policy environments, identified Mongolia’s key development challenges, and offered policy recommendations and action plans. On behalf of KDI, I would like to express my deepest appreciation to the Government of Mongolia and the MoF for their collaboration in the project. In particular, I would like to extend my profound gratitude to the government of Mongolia for their unwavering support. The completion of this project would not have been possible without their devotion. I also wish to thank the KSP consultation team—Senior Advisor Dr. Seok Dong Kim, Principal Investigator Professor Myung Ho Park, researchers Professor Sung Ho Choi, Professor Changyong Choi, Professor Jongyearn Lee, Professor Younghan Lee and Dr. Takkyung Kim, and local consultants Belguun Enkhmandal, Ichinnorov Luvsanvandan, Erdenebayar Davaasambuu, Sarantuya Munkhtur, Sukhdelger Sosorbaram, Munguntsatsral Boldbayar, Ochir Lkhagvasuren, Dulguun Ganzorig—for producing this report.

This project benefited greatly from many others both inside and outside the Mongolian government. I would like to extend my sincere thanks to all who have made valuable contributions to a successful completion of the project. I am also grateful to the Center for International Development of KDI, in particular Executive Director Dr. Sanghoon Ahn, former Executive Director Dr. Youngsun Koh, Project Manager Dr. Changjae Lee, Project Officer Ms. Jinha Yo and Mr. Jun Hee Kim, for their hard work and dedication to the project.

I firmly believe that the KSP will serve as a stepping stone to further elevate mutual learning and economic cooperation between Mongolia and Korea, and hope it will contribute to their sustainable development.

Jeong Pyo Choi President Korea Development Institute (KDI) Contents

2018/19 KSP with Mongolia·······································································································019 Executive Summary·····················································································································023

Chapter 1 Institutional Set-up and Governance for Integrated Development Planning

Summary·····································································································································027 1. Introduction·····························································································································028 1.1. ‌Current Situation and Challenges of Development Policy Planning of Mongolia ·······029 1.2. What to Share? ·················································································································033 1.3. Mongolia and Korea·········································································································035 2. Economic Development Plan: An Integrated Approach························································039 2.1. History and Concept ········································································································039 2.2. New Approach ·················································································································040 3. Economic Development Plans in Mongolia···········································································043 3.1. The History of Mongolian Economic Development Policy ············································043 3.2. New Tool Kit: An Integrated Approach on Mongolian Development Policy Planning·······055 4. Economic Development Plans in Korea ·················································································066 4.1. Economic History of Korea·······························································································066 4.2. EDPs in Korea····················································································································071 5. Policy Recommendations ·······································································································075 5.1. The Establishment of an Integrated Framework for EDPs ············································075 5.2. Political Leadership and Institutional Set-Up·································································076 5.3. Evidence-Based, Empirically Backed Policy Options······················································077 5.4. Development of Budgeting and Financial Systems························································078 5.5. Support for Monitoring and Evaluation (M&E)·······························································078 5.6. Capacity Development·····································································································079 5.7. Conclusion ·······················································································································080 References···································································································································082 Appendix······································································································································085

Chapter 2 Policy Prioritization Across Sector Summary·····································································································································091 1. Introduction: The Objective of the Study···············································································093 1.1. Background······················································································································093 1.2. Research Purpose·············································································································094 1.3. Challenges‌ of Economic Development and Policy Prioritization in Mongolia··············095 2. EDPs and Sectoral Policies in Mongolia·················································································098 2.1. Recent‌ Development Plans and Their Sectoral Policy Components ·····························098 2.2. Examples‌ of Prioritization Criteria: International Trade and Regional Structure ········102 2.3. Case Study of a Recent Sectoral Policy Documents························································104 2.4. Assessment‌ of Mongolian Situation: Obstacles and Future Tasks································114 3. Sectoral Policy Prioritization in Korea and Newly Industrialized Countries·························116 3.1. Overview ··························································································································116 3.2. Korea’s Industrial Policy and Sectoral Prioritization Methods·······································116 3.3. Korea’s‌ Science and Technology Policy and Sectoral Prioritization Methods ··············121 3.4. Reflection on the Prioritization Methodology ·······························································122 4. Suggestions for Prioritization Methodology·········································································127 4.1. Methodologies Based on Economic Theories and Models ···········································127 4.2. ‌Methodologies Based on Indexation: Composite Indicators (CI) for Priority Assessment·128 4.3. A Suggestion for the Prioritization Methodology Multi-Criteria Decision Analysis ·····130 4.4. Pilot‌ Analysis for Establishing Evaluation Criteria and Their Application·····················132 5. Conclusion: Implications from Korean Experiences and Policy Suggestions······················137 5.1. Comparisons of Mongolian and Korean Institutions ····················································137 5.2. Applicability‌ of Korean Experiences in Mongolia and Policy Suggestions ···················137 References···································································································································141 Appendix······································································································································144

Chapter 3 Integrative Strategy of Planning and Budgeting Summary·····································································································································151 1. Introduction·····························································································································154 2. An Overview of the Mongolian Economic Situation and Development Plans·····················156 2.1. Economic Situation···········································································································156 2.2. The Law on Development Policy Planning······································································159 3. Why Integration of Planning and Budgeting Matters? ························································164 Contents

3.1. Overview: Theoretic Foundations ···················································································164 3.2. Rationales of an Integration System ··············································································166 3.3. Preconditions of an Integrative System ········································································167 3.4. Lessons Learned from the Korean Case ········································································170 3.5. The Mongolian Context····································································································172 3.6. Challenging Issues ··········································································································174 4. Key Findings from The Survey ·······························································································176 4.1. Assessment of Organizational Capacity··········································································176 4.2. ‌Results of the Survey Conducted at the Ministry of Finance, Mongolia in February 2019···································································································································180 5. Policy Recommendations ·······································································································188 5.1. Planning-Budget-Linked Systemization··········································································188 5.2. Institutionalization of Planning and Budget Linkages···················································189 5.3. Institutionalization of Performance-Based Budgeting··················································190 5.4. Capacity Building for Planning and Budget Linkages····················································191 5.5. Capacity Development Program for Mongolian Civil Servants·····································193 References···································································································································195

Chapter 4 Developing and Applying the Project Readiness Assessment and Due Diligence Methodology Summary·····································································································································199 1. Introduction·····························································································································201 2. Methodology in the Feasibility Study·····················································································203 2.1. General Contents of the Feasibility Study·······································································203 2.2. The System of Analysis·····································································································207 2.3. Evaluation on Commercializing Ability············································································209 2.4. Financial Evaluation·········································································································209 2.5. Risk Assessment···············································································································213 3. Practice of Feasibility Studies in Mongolia············································································215 3.1. Overview···························································································································215 3.2. Case of 2018-21 PIP Formulation by the NDA································································216 3.3. Validation of Feasibility Study··························································································218 3.4. Findings and Discussions·································································································220 4. Korean Practice in Project Readiness Assessment and Due Diligence·································222 4.1. Overview···························································································································222 4.2. A Case Study·····················································································································224 4.3. Lessons Learned and Discussions···················································································228 5. Policy Suggestions···················································································································229 5.1. Suggestions for the DBM AMC························································································229 5.2. Further Recommendations······························································································230 References···································································································································234 Appendix······································································································································235

Chapter 5 Support for Project Financing Mechanisms and Investment Fund Operations Summary·····································································································································239 1. Project Financing Mechanisms ······························································································243 1.1. Structure of Project Financing·························································································243 1.2. Project Financing Workflow and Stakeholders·······························································246 1.3. Analysis of a Korean Project Financing Case··································································250 2. The DBM AMC’S Business Environment Analysis in Mongolia·············································256 2.1. Mongolian Project Financing Environment Analysis······················································256 2.2. Project Status and Project Problems for Mongolian Central and Local Governments·265 2.3. Diagnosis of the Determinants of Project Profitability and Risk···································270 3. Evaluation of the DBM AMC’s Funding Plan for Project Financing·······································272 3.1. The DBM AMC’s Investment Fund Plan···········································································272 3.2. ‌Assessment of the Possibility of Deal Sourcing and the Domestic Investment Fund Market·······························································································································279 3.3. Analysis of the DBM AMC’s Funding Plan·······································································282 4. ‌Diagnosis of the DBM AMC’s Ability to Perform Project Financing through Investment Funds ·······································································································································284 4.1. ‌Identification of the Current DBM AMC’s Organization, Human Resources, and Work Description························································································································284 4.2. ‌Analysis of the Role and Readiness of the DBM AMC throughout the Project Financing Process······························································································································287 Contents

4.3. Case Study of the Korean Infrastructure Fund-KDB KIAMCO········································290 4.4. ‌Comparison between the DBM AMC and the Korean Investment Fund Management Case···································································································································295 5. ‌Structuring Plan of the DBM AMC’s Function of Fund and Fund Back Office for Project Management···························································································································301 6. Policy Recommendations ·······································································································306 6.1. Appropriate Functions and Tasks of the DBM AMC throughout the Project Workflow··························································································································306 6.2. ‌Enhancing the DBM AMC’s Competence in Organization and Establishing a Reliable Cooperation System·········································································································308 6.3. Focusing on Target Investors··························································································309 6.4. Special Law and Regulation for Supporting Infrastructure Fund··································310 References···································································································································311 Contents l List of Tables

Chapter 1

New Framework for EDP ····················································································041 Assessment of Historical Development Policy Planning···································054 Assessment of Mongolia’s Development Policy Planning·································055 Staff in the Field of Development Policy Planning (Average Score)·················065 Four Periods of Korean Economic Development ·············································068 Trade Deficit (US), Economic Aid and Economic Growth in Korea····················072 Comparison of Targeted Goals and Actual Achievements································073 Assessment of Korea’s Development Plan ························································074

Chapter 2

Opinions on Prioritization of Sectoral Policies···················································096 Opinions on the Necessity of Institutions for Policy Prioritization ··················097 Opinions on the Performance of Institutions for Policy Prioritization·············098 Sustainable Development Vision 2030 Indicators·············································100 Targeted Industrial Sectors in the Sustainable Development Vision 2030······101 Recent Trend of Total Industrial Production in Mongolia·································110 Major Mineral Resource Reserves in Mongolia·················································111 Production of Major Mineral Resources in Mongolia·······································112 Industrial Structure Enhancement and Policy Prioritization Criteria···············117 Science and Technology Policy and Sectoral Policy··········································121 Suggested Criteria for Policy Prioritization·······················································124 Scale Score of Paired Comparisons····································································131 Values of RI··········································································································132 Composition of Survey Respondents·································································133 Importance of Each Item in the Main Criteria for Prioritization······················134 Importance of Each Item in the Sub-criteria for Prioritization·························135 Results of Integration Analysis: Priority Evaluation Criteria System ··············136 Contents l List of Tables

Chapter 3

Key Factors of the Integrated System of Planning and Budgeting ·················168 ‌ A Brief History of Organizational Changes in Korea for Planning and Budget Ministries·············································································································171 Correlation Between Policy and Annual Budget···············································175 The Educational Level of Officers, Years of Experience (Officers/Percent)······176 Working Experience in the Development Policy Planning Field·······················177 Ministry Collaboration ························································································182 Recommended Actions and Expected Outcome By Time·································190 Core Capacities for Civil Servants·······································································192

Chapter 4

Different Forms of Feasibility Study···································································202 Key Components of a Feasibility Analysis··························································207 Aspects of the Evaluation of Commercializing Ability·······································209 Use of Investment Evaluation Standards···························································212 Concession Agreement of Cheonan-Nonsan Expressway································225 Financing Structure of the Cheonan-Nonsan Expressway································226 Demand Profile of the Cheonan-Nonsan Expressway······································226

Chapter 5

Main Difference between Corporate Financing and Project Financing ··········244 The Major Steps in PPP Projects and Project Finance Transactions·················246 Participants of the Project Financing Structure ················································247 History of PPI Act·································································································250 Main Features of the Cheonan-Nonsan Expressway Project····························252 Blind Type vs. Project Type in Investment for Infra in Korea····························255 BTO vs. BTL in Investments for Infrastructure in Korea····································255 Economic Performance Measure Trends (2012-2017)······································256 Financial System – Market Share········································································257 The Key Risks and Challenges of PPP Projects in Mongolia·····························270 Plan for Establishing Investment Funds····························································275 Fundraising Strategies························································································276 Licensed Investment Management Companies in Mongolia···························281 Mission and Goals of the DBM AMC··································································286 General Information about KDB KIAMCO (FY 2017)·········································291 Major Investment Areas of KDB KIAMCO ·························································292 Major Investments of KDB KIAMCO in Different Sectors ·································292 Main Funds Established by KDB KIAMCO (2003-2018)·····································293 Common Characteristics of Infrastructure Funds in Korea······························296 Main Features of SOC Investment Vehicles in Korea········································297 Units of the DBM AMC: Work Scope and Employees········································299 Checklist for Fund Asset Management from the View of Fund Investors········303 Investment Processes of Infrastructure Funds (Six Steps)·······························306 Contents l List of Figures

Chapter 1 [Figure 1-1] Drafting Procedure of the National Programme and State Policies················031 [Figure 1-2] Per capita GDP: Mongolia and Korea·································································035 [Figure 1-3] Manufacturing Share to GDP: Mongolia and Korea·········································036 [Figure 1-4] Employment of Manufacturing: Mongolia and Korea······································037 [Figure 1-5] Share of Exports and Imports: Mongolia and Korea········································038 [Figure 1-6] Inflation: Mongolia and Korea···········································································038 [Figure 1-7] Investment to GDP: Mongolia and Korea··························································039 [Figure 1-8] Timeline of Development Institutions·······························································044

Chapter 2 [Figure 2-1] The Three-Pillar Development Policy Goals·······················································102 [Figure 2-2] Main Export Products, 2014-2016······································································103 [Figure 2-3] Green Development Corridor·············································································104 [Figure 2-4] Overview of Recent Tourism Industry in Mongolia ··········································107 [Figure 2-5] Recent Investment Performance in Mongolia Tourism Industry·····················108 [Figure 2-6] Basic Model for AHP Analysis (Example)···························································132

Chapter 3 [Figure 3-1] Gross Domestic Product and its Increase··························································157 [Figure 3-2] Budget Revenue and Expenditures····································································158 [Figure 3-3] Poverty and HDI··································································································159 [Figure 3-4] Policy Framework before Law on Development Policy Planning······················160 [Figure 3-5] After Law on Development Policy Planning······················································161 [Figure 3-6] Structure of the Ministry of Finance··································································164 [Figure 3-7] ‌ Overview of Mechanisms Supporting Integrated Planning, and Associated Challenges Across the Planning Cycle in the Scoping Study Countries··································173 [Figure 3-8] Officers Involved in Training-related Development Planning··························177 [Figure 3-9] The Status of the Development Policy and Planning System in 2013··············178 [Figure 3-10] Assessment of the Legal Environment of Development Policy Planning········179 [Figure 3-11] Cooperation and Collaboration Between Public Organizations······················179 [Figure 3-12] Professional Skill of Development Policy Planning Officers·····························180 [Figure 3-13] Technical Support for Officers············································································180 [Figure 3-14] Awareness of the Policy Planning and Budgeting Process······························181 [Figure 3-15] Participation in Capacity Building······································································183 [Figure 3-16] Provision of Capabity Building Programs··························································183 [Figure 3-17] Survey Result of Leadership···············································································184 [Figure 3-18] Survey Result of Policy Process··········································································185 [Figure 3-19] Survey Result of Ministry Collaboration····························································186 [Figure 3-20] Survey Result of Organization and Institutions················································186 [Figure 3-21] Survey Result of Capacity Building····································································187

Chapter 4 [Figure 4-1] Assessments in the Life Cycle of a Project·························································201 [Figure 4-2] Multistage Feasibility Study················································································207 [Figure 4-3] Flow Chart of the Analysis System·····································································208 [Figure 4-4] Structure of Marketability Analysis····································································210 [Figure 4-5] Standards in Financial Analysis··········································································211 [Figure 4-6] Category of Risk Factors·····················································································214 [Figure 4-7] Risks Associated with Infrastructure Projects···················································214 [Figure 4-8] Key Features of Fund Investment Strategy ·······················································223 [Figure 4-9] Location Map of the Cheonan-Nonsan Expressway·········································225 [Figure 4-10] Standard Example of a Unified Framework for Project Appraisal····················231 [Figure 4-11] ‌ ‌Government Supports for Public-Private Partnership Projects in the Republic of Korea···············································································································233

Chapter 5 [Figure 5-1] The Structure of Project Financing and the Relationships of Stakeholders····245 [Figure 5-2] Structure of Project Assessment in the Project Development Stages··············249 [Figure 5-3] Cheonan-Nonsan Expressway Location Map····················································252 [Figure 5-4] ‌ ‌Commercial Banks’ Market Share, Outstanding Bank Loans, and Credit Growth (2010-2018)·········································································································258 Contents l List of Figures

[Figure 5-5] ‌Status of Private Sector and Household Loans Outstanding in Mongolia (2010-2018)··········································································································259 [Figure 5-6] ‌Trend of Interest Rates and the Proportion of Commercial Bank Loans by Sector (2010-2018)······························································································259 [Figure 5-7] ‌Total Lending Amount by the DBM and the Proportion of Loans by Sector (2015-2017)·········································································································260 [Figure 5-8] Total Assets and Loans Outstanding by NBFIs and SCCs (2016-2018)·············261 [Figure 5-9] DFI Financing in Mongolia··················································································262 [Figure 5-10] The Proportion of DFI Financing by Sector and Financing Type ·····················262 [Figure 5-11] FDI Inflow Trend and the Proportion of FDI by Country (2010-2018)··············263 [Figure 5-12] Market Capitalization and Liquidity of the Mongolian Stock Exchange··········264 [Figure 5-13] IPO Status of the Mongolian Stock Exchange···················································264 [Figure 5-14] GDP Growth Rate and Budget Deficit/GDP Ratio (2010-2019)·························267 [Figure 5-15] Planned Investment Funds of the DBM AMC····················································272 [Figure 5-16] Investment Decision-Making Process of the DBM AMC···································278 [Figure 5-17] Governance Structure of the DBM AMC····························································284 [Figure 5-18] Organization Chart of the DBM AMC·································································285 [Figure 5-19] Major Shareholders and Fund Investors of KDB KIAMCO································291 [Figure 5-20] Major Milestones of KDB KIAMCO·····································································293 [Figure 5-21] Investment by Funding Source Type/Project Status of KDB KIAMCO··············294 [Figure 5-22] Organization Chart of KDB KIAMCO··································································298

2018/19 KSP with Mongolia

Jun Hee Kim (Project Officer, Korea Development Institute) 2018/19 KSP with Mongolia

Jun Hee Kim (Project Officer, Korea Development Institute)

From 2004, the Ministry of Economy and Finance (MOEF) and Korea Development Institute (KDI) launched a comprehensive consultation project called the Knowledge Sharing Program (KSP) to assist partner countries in key policy areas by sharing Korea’s specific development knowledge and experience. It offers comprehensive policy consultations tailored to the needs of partner countries encompassing in-depth analysis, policy consultation, and training opportunities. 019 2018/19 KSP with Mongolia The KSP with Monglia was first launched in 2011 and successful cooperation between the two countries has continued ever since. The following topics were carefully selected by the MOEF after consultation with partner institutions.

Sub-Topics Researchers Local Consultants

Belguun Enkhmandal. Professor Myung Ho Park Institutional Set-up and Governance (Specialist, MoF) (Hankuk University of Foreign for Integrated Development Planning Ichinnorov Luvsanvandan Studies) (Officer, MoF)

Erdenebayar Davaasambuu. Professor Sung Ho Choi (Director, NDA) Policy Prioritization Across Sectors (Kyonggi University) Sarantuya Munkhtur (Officer, NDA)

Sukhdelger Sosorbaram Professor Changyong Choi Integration of Planning and Budgeting (Specialist, MoF) (KDI School of Public Policy and Strategy Munguntsatsral Boldbayar Management) (Specialist, MoF)

Developing and Applying the Project Professor Jongyearn Lee Ochir Lkhagvasuren Readiness Assessment and Due (KDI School of Public Policy and (Chief Executive Officer, DBM AMC) Diligence Methodology Management)

Professor Younghan Lee Support for the Project Financing (University of Seoul) Dulguun Ganzorig Mechanism and Investment Fund Dr. Takkyung Kim. (Asset manager, DBM AMC) Operations (Korea Development Institute)

• Senior Advisor: Seok Dong Kim (Former Chairman of the Financial Services Commission) • Project Manager: Dr. Chang Jae Lee (Visiting Senior Fellow, CID, KDI) • Principal Investigator: Prof. Myung Ho Park The 2018/19 KSP with Mongolia was conducted over various stages, which are summarized in the following table.

No. Program Cycle Date Venue

Oct. 23 ~ 27, 2018 Ulaanbaatar, 1 Launching Seminar & High-Level Meeting Dec. 12 ~ 14, 2018 Mongolia

Ulaanbaatar, 2 KSP Policy and In-Depth Study Jan. 7 ~ 11, 2019 Mongolia

Seoul, Sejong, 3 Interim Reporting & Policy Practitioners' Workshop Mar. 3 ~ 9, 2019 Korea

Ulaanbaatar, 4 Final Reporting Workshop & Senior Policy Dialogue Jul. 2 ~ 6, 2019 Mongolia

5 KSP Capacity Building Workshop Aug. 25 ~ 30, 2019 Seoul, Korea

In order to identify policy needs for each research topic, the KSP research team, led by Project Manager Dr. Chang Jae Lee, KDI, conducted a Launching Seminar & High- level Meeting in Ulaanbaatar, Mongolia. Meetings were held with partner organizations 020 including the Ministry of Finance (MOF), the National Development Agency (NDA), and the Strengthening Economic Development Planning and Infrastructure Funding for Mongolia Development Bank of Mongolia (DBM) to get a better understanding of the current status of Mongolia on each of the five topic. During this process, the research team examined whether the research areas in the written demand survey corresponded to the current situation in Mongolia. From Dec. 12 to 14, additional meetings with the DBM and DBM Asset Management Company were held in Ulaanbaatar to further discuss the research proposal and research scope.

The KSP Policy and In-depth Study program cycle was carried out in Ulaanbaatar, Mongolia from Jan 7th to 11th. The Progress Review Meetings were conducted by Korean experts and local consultants at the KSP policy seminar, and experts from the MOF, NDA, and DBM/DBM AMC participated in the seminar. Moreover, the in-depth research was conducted to gather relevant data and additional information. During this trip, the progress of the study was shared and reviewed, and the Terms of Reference (ToR) for all local consultants were finalized. Former Minister Kim, Senior Advisor to this project, joined the trip, and held high-level meeting with the relevant counterparts including the president of NDA, the CEO of the Mongolian Central Securities Depository (MCSD), the president of Mongolian Securities Clearing & Settlement (MSCC), and the CEO of DBM to draw attention to this project and ask for continued support from each organization.

From Mar. 3rd to 9th, 2019, the Interim Reporting and Policy Practitioners' workshop was carried out in Seoul, Sejong, and Pohang, Korea. Seventeen delegates came to Korea, led by the Vice Minister Narantsogt Sanjaa from the MOF. The interim reporting workshop was held to share the progress and tentative policy recommendations for each of the five research topic. In addition, institutional visits to the National Assembly Budget Office, Korea Development Bank, Macquarie Korea Infrastructure Fund, KDI, Ministry of Economy and Finance, Ministry of Trade, Industry and Energy, Seoul Beltway, KDB Infra, POSCO, and other key locations were arranged to provide a better understanding of the policy implications by witnessing Korea's economic development firsthand. The delegation were highly satisfied by the meetings and schedules.

As the final stage of the KSP, the research team, led by Senior Advisor Seok Dong Kim, conducted the Senior Policy Dialogues and the Final Reporting Workshop in Ulaanbaatar, Mongolia in July. Two separate final reporting workshops; one with the MoF and NDA, and the other with the DBM were held, and the workshops ended very successfully. Korean experts and local consultants shared the outcomes of the study conducted over the past 8-9 months and had in-depth discussions on how to utilize the outcomes of the discussions in an appropriate and effective manner. More than forty participants attended the Final 021

Reporting Workshop from relevant organizations including the MOF, NDA, and DBM. 2018/19 KSP with Mongolia During the high-level meetings, the Vice Minister from the MOF expressed her strong will to continue cooperation to proceed with implementation of the policies and to strengthen the partnership between the two countries even further. High levels of satisfaction were expressed during the project completion interview and it was stated that this year’s program was well executed with significant progress made on the KSP with Mongolia.

Upon an official request from the MoF (The State Secretary, July 17, 2019) after the Final Reporting Workshop, an additional capacity building workshop was prepared to follow up and fulfill the final recommendations. The importance of capacity building for the staff was emphasized for all topics related with the MoF and NDA, as a core factor for fostering adequate development planning systems in Mongolia, and this was presented in the final reporting workshop. In the capacity building workshop, lectures on financial crisis management and fiscal stabilization policy were delivered by distinguished speakers and Korea’s dBrain system and outcome oriented planning and budgeting methods were introduced by Korean experts. In addition, the in-depth discussion session chaired by Dr. Chang Jae Lee was held to discuss the achievements and implications of this year’s project. The plans for utilization and cooperation were discussed, and high levels of satisfaction were expressed. The MoF and NDA sincerely hope to continue this cooperation for the KSP in the future. Executive Summary

Myung Ho Park (Hankuk University of Foreign Studies) Executive Summary

Myung Ho Park (Hankuk University of Foreign Studies)

In Chapter 1, the challenges of Mongolian Economic Development Plan (EDP) were examined under a new integrated framework that was formulated based on the approach suggested by the UNDP. The new framework consists of five core areas; 1) institutions and governance, 2) evidence-based and empirically backed policy options, 3) the development of a budgeting and financial system, 4) monitoring and evaluation (M&E), and 5) capacity development. In order to identify the challenges in Mongolia, the new integrated approach 023

was applied to diagnose the current states of the EDP. To identify the major issues regarding Executive Summary the EDP in Mongolia, the history of Mongolian development policy was reviewed, from the Soviet-type centrally plan to the market-based EDP. To understand the current states of the EDP in Mongolia, a survey covering the EDP and governance issues was conducted with 43 officials from the Ministry of Finance. The survey questionnaire and analysis results summarized in the Appendix. On the basis of a comparative analysis of EDPs in Mongolia and Korea, 6 seven policy recommendations are suggested regarding the establishment of the integrated framework, political leadership and institutional set-up, evidence-based policy options, budgeting, M&E, and capacity development.

The main purpose of Chapter 2 is to provide the Mongolian government with the rationale and methodology for prioritization among sectors to plan and enforce long-term economic development strategies systematically and effectively. The unstable sectoral policy priority is a challenge the Mongolian government must address. This study derived the criteria for prioritizing sectoral policies comprising technology aspects (high value added products and services, technology maturity, non-technical innovation), resource aspects (private sector human resources such as entrepreneurial capacity, public sector human resources), economic aspects (domestic value chain, business environment, foreign market access), social and environmental aspects (political acceptability, laws and systems, income distribution equity, environmental impacts), and regional aspects (local infrastructure, regional industrial linkage, local demand). These standards were applied to the Mongolian government's recently established sector policy cases. Among the 17 sectoral policies coordinated by the NDA, agriculture, tourism, mining and energy, light industry, and heavy and chemical industry policies selected to be analyzed. In particular, the analytic hierarchy process (AHP) was adopted as concrete method for establishing a policy prioritization framework, deriving the relative importance between criteria, and the application of the suggested criteria to the actual policy cases. For the AHP analysis, focused group interviews and surveys conducted to gather the opinions of experts and stakeholders, and feedback on the results of the surveys and analyses was conducted. The analysis showed that ‘economic aspects’ (25.7%) were the most important among the five major items, and the ‘regional aspects’ (22.6%) were the next most important. On the other hand, ‘technology aspects’ came in at 14.3%, which is assessed as the least important.

Chapter 3 explains the joint research conducted on the efficiency and effectiveness of the budget execution based on the integration of the planning and budget system. Specifically, this chapter focuses on budget planning and the efficient execution of: 1) an institutional framework for the effective linkage between the finance ministry and other line ministries, 2) 024 the division of roles for collaborative systems among the related organizations, 3) and their

Strengthening Economic Development Planning and Infrastructure Funding for Mongolia organizational and staff capacity specifically for those who are in charge of policy design and coordination.

The main purpose of Chapter 4 is to provide the Development Bank of Mongolia Asset Management Company (DBM AMC) with useful and hands-on recommendations on the methodologies they can make use of when attempting to assess their project readiness and conduct their due diligence. Moreover, it attempts to make further recommendations to the DBM AMC and the Mongolian government to enhance the projects’ bankability. Based on the findings and lessons learned, policy suggestions are made as follows: 1) The DBM AMC must have an adequate level of capacity to appraise the socio-economic, financial, and economic outcome of projects; 2) In order for the DBM AMC to structure and allocate the risk and costs of projects more effectively, the DBM AMC must avoid BT-type projects and focus on more classical PPP-type projects instead; 3) Employ a rigorous and transparent multi- staged feasibility process; 4) Develop a clear and comprehensive manual on what makes an acceptable feasibility study, in terms of content, quality, and depth in order to have a unified scope and methodology for the feasibility study; 5) Enhance quality and ensure reliability of the feasibility study by employing third-party independent peer reviews during the process; 6) Employ a combination of in-house professionals and third-party experts, for the purpose of governance, efficiency, and cost saving; 7) Introduce constant improvement mechanisms by conducting a before-and-after feasibility study. The main purpose of Chapter 5 is to provide analysis on the project financing process and make suggestions on the organization and operating system of the DBM AMC accordingly. The DBM AMC is currently planning to set up three investment funds and is setting up a National Strategic investment fund to explore projects for investment. The DBM AMC should be able to articulate to what extent each fund is planning investors' levels of fund returns, maturity, risk level, and characteristics. In the Mongolian fund regulatory environment, laws and regulations have recently been enacted and are currently operating. Fund investors in the Mongolian capital market may feel uneasy due to the lack of experience in managing the rules on investor protection in the Mongolian fund market and the lack of relevant cases. This can be a constraint on their investment. Therefore, the DBM AMC should promote to investors as much as possible that it is well equipped with its own rules for investor protection and the due process of investment review.

025 Executive Summary 01 Chapter

Institutional Set-up and Governance for Integrated Development Planning

Myung Ho Park (Hanguk University of Foreign Studies) Belguun Enkhmandal (Ministry of Finance) Ichinnorov Luvsanvandan (Ministry of Finance)

1. Introduction 2. Economic Development Plan: An Integrated Approach 3. Economic Development Plans in Mongolia 4. Economic Development Plans in Korea 5. Policy Recommendations

Keywords Economic Development Planning, Integrated Approach, Indicators, Mongolia, Korea Institutional Set-up and Governance for Integrated Development Planning

Myung Ho Park (Hanguk University of Foreign Studies) Belguun Enkhmandal (Ministry of Finance) Ichinnorov Luvsanvandan (Ministry of Finance)

Summary

This is one project within the 2018/19 KSP with Mongolia. This chapter deals with challenges faced by the Mongolian government regarding its Economic Development Plan (hereafter EDP). 027 EDPs have a long history, appearing first in the socialist countries, then in European Cha p t e r countries following the European Reconstruction Plan after the Second World War, and then 01

in many developing countries after they gained independence from colonial rule. Institutional Set-up and Governance for Integrated Development Planning

In this chapter, the challenges faced by the Mongolian EDP will be examined from a methodological aspect as well as a procedural one. While the procedural aspect is related to the planning cycle, the methodological aspect is related to the absence or lack of an integrated approach. For that, we formulated a new integrated framework based on the approach suggested by the UNDP. The new framework consists of five core areas; 1) institutions and governance, 2) evidence-based and empirically backed policy options, 3) the development of a budgeting and financial system, 4) monitoring and evaluation (M&E), and 5) capacity development.

In order to identify the challenges in Mongolia, a new integrated approach was applied to diagnose the current state of the EDP. To identify the major issues of the EDP in Mongolia, the history of Mongolian development policy was reviewed, from the Soviet-type central plan to the market-based EDP.

To understand the current state of the EDP in Mongolia, a survey covering the EDP and governance issues was conducted with 43 officials from the Ministry of Finance. The survey questionnaire and analysis results were summarized in the Appendix. After describing economic development process of Korea, the Five-Year Economic Development Plans on Korea were investigated. Korea’s practices were found to satisfy most of the conditions set out by the integrated framework in the course of time.

The EDP in Korea started out as a typical resource allocation plan. However, it was transformed into an indicative EDP to accommodate the changing economic conditions and allow more room for the market mechanism. This transformation enabled it to lay the foundation for Korea’s economic success. This implies that EDPs can be an effective tool for jump starting an underperforming economy only when the development strategy itself is geared to promoting market incentives, price mechanisms, and private sector initiatives.

On the basis of a comparative analysis of the EDPs in Mongolia and Korea, seven policy recommendations are suggested regarding the establishment of the integrated framework, political leadership and institutional set-up, evidence-based policy options, budgeting, M&E, and capacity development.

028 Strengthening Economic Development Planning and Infrastructure Funding for Mongolia 1. Introduction

Economic Development Plans (hereafter EDP) have a long history, appearing first in the socialist countries, then in European countries following the European Reconstruction Plan after the Second World War, and then in many developing countries after they gained independence from colonial rule. Korea officially launched the First Five-Year Plan in 1962. However, it is not well known that the Korean government established its first EDP to prepare for a self-sustaining economy as economic aid from USA declined sharply in the late 1950s. But the first Korean EDP, initiated at the request of the US government in the late 1950 was not implemented due to the regime change in 1960.

EDPs have different meanings depending on the historical period and geographic location. In socialist countries, EDP referred to detailed plans that dictated all the productive activities within the nation, without resorting to the market mechanism. In market economies, an EDP is often used to announce the government’s goals and strategies for economic development and to take steps for carrying out public investment plans. Hence, an EDP could be purely indicative, demonstrating the overall policy orientations accompanied by resource allocation plans.

In this chapter, we formulated a new framework for the analysis of EDPs, based on the approach suggested by the United Nations Development Programme (UNDP). The new framework consists of five core areas; 1) institutions and governance, 2) evidence-based and empirically backed policy options, 3) development of budgeting and financial systems, 4) monitoring and evaluation (M&E), and 5) capacity development, each area containing several checklists. (Section 2)

The Knowledge Sharing Program (KSP) has carried out many research projects on EDPs in various countries such as the Kingdom of Saudi Arabia, Kuwait, Algeria, Myanmar, Panama, Congo, and Ukraine. Much of the previous KSP research on EDPs addressed only some of the core areas of EDPs, excluding the others. Specially, monitoring and evaluation (Area 4) and capacity development (Area 5) were hardly mentioned in the research among the five key areas (Park et al. 2018).

In Section 3, the new integrated approach was applied to diagnose the current state after reviewing the history of Mongolian development policy. As a part of the situation analysis, self-assessments by officials from the Ministry of Finance were undertaken. To understand the current state of the EDP in Mongolia, a survey regarding the EDP and governance issues was conducted with officials from the Ministry of Finance. The survey results are 029 summarized in the Appendix. Chapter

In Section 4, after describing the economic development process of Korea, the Five-Year 01 Institutional Set-up and Governance for Integrated Development Planning Economic Development Plans on Korea are reviewed. Korea’s practices were found to satisfy most of the conditions set out by the integrated framework in the course of time. Finally, the assessment results of the EDP in Mongolia are compared to those of the EDP in Korea. A comparative analysis will be used as the basis for argument for the policy implications concerning the EDP of Mongolia.

1.1. Current‌ Situation and Challenges of Development Policy Planning of Mongolia

In November 2015, the Government of Mongolia formulated and passed the Law on Development Policy Planning under the purpose of determining clear stages of planning, implementation, monitoring, and evaluation of development policy documents as well as building outlining the rights, duties, and responsibilities of relevant stakeholders. This law enabled the establishment of an integrated development policy planning system.

According to the law, development policy documents are divided into three broad categories depending on their goals and objectives, namely, long, mid, and short-term policies. The long-term policy documents are to be implemented within 15-20-year period, defining the development concept of Mongolia. This includes “Sustainable Development Vision-2030” which was approved by the Parliament in 2016.

The mid-term policy documents are categorized into two types in terms of their implementation period, the policy documents to be implemented for a period of 8-10 years and 3-5 years. The policy documents implemented in an eight to ten-year period include the following: State policy, regionalized development policy, and a development vision for provinces and the capital city. The policy documents implemented in three to five-year period include the Government Action Plan, the Governor’s Action Plan, as well as the National Programme and Sub-programme and Public Investment Program.

The short-term policy documents are implemented in a one-year period, including the following: State General Guidelines for Socio-economic Development, General Guidelines for Socio-economic Development for Provinces, the Capital City, Soum, and District, and State and Local Budgets Planned in Conformity with Socio-economic Development Guidelines.

The drafting procedures of development policy documents are clearly defined in the Law 030

Strengthening Economic Development Planning and Infrastructure Funding for Mongolia on Development Policy Planning and the government resolution named “General Drafting of Development Policy Documents”.

1.1.1. Drafting Procedure of Sustainable Development Vision (Long-term policy)

According to 7th Article of the Law on Development Policy Planning, the government is expected to organize the work of drafting while ensuring the participation of the State central and local administrative bodies, non-governmental organizations, research institutions, academies, professional associations, private sector, and citizens. Once the government submits the draft of the development concept to the Parliament, it will be approved by the Parliament.

For example, after concluding the implementation of Millennium Development Goals-2015, the General Assembly of the United Nations approved the Sustainable Development Goals to be implemented by 2030. In compliance with these goals, the State Great Khural (the Parliament) approved the Sustainable Development Vision of Mongolia-2030 in 2016, determining the development concept of Mongolia. This policy document aims to develop a multi-sector stable economy, and a society dominated by middle and upper-middle income classes, which will have stable and democratic governance and preserve the ecological balance. Within this framework, this policy document purports to implement 14 principle sectors and 44 objectives within three phases by 2030. 1.1.2. ‌Drafting Procedure of the National Programme and State Policy (Medium-term Policy)

In accordance with Article 19.2 of the development policy planning law, when drafting a national programme and State policy, the ministries are obliged to organize meetings and discussion for getting proposals from the assigned working groups represented by the academies, research institutions, and government and non-government bodies. Subsequently, ministries formulate the national programme and State policies based on the proposals and recommendations from the assigned working groups in compliance with the development policy planning law and government resolutions for drafting procedures for development policy documents. Then, ministries apply to the Ministry of Finance to obtain permission to submit to the government.

The Ministry of Finance monitors whether these development policy documents meet the following requirements, which are defined in the Law on Development Policy Planning and its drafting procedure regulations and subsequently gives permission to submit to the government. 031 Chapter

Drafting procedure of the national programme and State policies are depicted in the following figure. 01 Institutional Set-up and Governance for Integrated Development Planning

[Figure 1-1] Drafting Procedure of the National Programme and State Policies

Submit to get Government organizations permission MINISTRY OF Provide proposals Private sector on policy MINISTRIES FINANCE Non Government document Give permission organization /Formulating Development to submit to the /Ministry of Finance shall review Civil society Policy Document/ Cabinet the draft and give permission to Scientists and Academies submit to the Cabinet/

THE GOVERNMENT

/The Government shall approve “State Policy” and “National Program”/

Source: The Ministry of Finance. 1.1.3. Drafting‌ Procedure for Sate General Guidelines for Socio-Economic Development and the Annual Budget Law (Short-term policy)

Ministries, agencies, and local administrative bodies submit their proposals for annual social economic development guidelines and budget planning to the Ministry of Finance within the given time framework that is outlined in the Law on Development Policy Planning and budget law, respectively. After receiving their proposals on these short-term policy documents, the Ministry of Finance monitors whether their indicators met the requirements indicated in the relevant laws and regulations as well as submit to the government.

To be specific, according to Article 12.6 of the Law on Development Policy Planning, the Ministry of Finance is responsible for acquiring proposals for annual socio-economic guidelines from the central State administrative bodies and local administrative bodies and developing it for submission to the government by the 1st of April. After that, the government shall submit them to the Parliament before the 1st of May and the Parliament shall approve the guidelines by the 1st of June. For example, the General Guideline of

032 Socio-Economic Development for 2019 was submitted by the Ministry of Finance to the

Strengthening Economic Development Planning and Infrastructure Funding for Mongolia government for discussion on April 25 and approved by the Parliament on May 24, 2018.

As indicated in Article 8.4.4 of the budget law, the Ministry of Finance is in charge of integrating annual budget proposals from the relevant central and local administrative bodies and submitting them to the government by the 15th of September. Then the government shall submit a draft of the annual budget to the Parliament by the 1st of October, followed by the Parliament’s approval by the 11th of November. For instance, the Ministry of Finance submitted the budget law for 2019 to the government on the 13th of September. Then, the government submitted it to the Parliament on the 28th of September and it was approved by the Parliament on the 2nd of November, 2018.

This procedure timeline for drafting development policy documents implies that the social economic development general guideline shall be approved firstly and followed by approval of budget law on a basis of general policy guideline in accordance with the constitutional law of Mongolia and other relevant laws.

In general, it can be said that one of the major successes that Mongolia made in terms of development policy planning to date is the approval of the Law on Development Policy Planning. Because the Law on Development Policy Planning was approved, the basis of planning, implementation, monitoring, and evaluation of development policy documents could be well established. This legal framework also leads to not only guiding principles, rights, duties, and responsibilities of engaging stakeholders but also methodologies and clear procedures for outlining development policy documents. This shows that the legal environment for development policy planning was set up in a clear manner.

1.1.4. Challenges for the EDP in Mongolia

Although development policy planning is legally well framed as indicated in the previous section, this legal environment is not efficiently practiced in reality. There is still weak coordination and implementation of development policy documents. However, this weakness has not been holistically assessed through internationally accepted tools. Regarding EDP, Mongolia is now facing many challenges including weak coordination, the absence of evidence-based policies, a lack of data availability, and the under-performance of monitoring and evaluation.

According to the Law on Development Policy Planning, the drafting duties and roles of development policy documents are divided into two institutions: the Ministry of Finance and the National Development Agency. For example, the National Development Agency is 033 responsible for long-term policy and some mid-term policy, regionalized development policy, Chapter and public investment programmes, while the Ministry of Finance is charged with the responsibility of outlining other medium-term and short-term policy documents. As a result, 01 Institutional Set-up and Governance for Integrated Development Planning development planning was fragmented into separate organizations.

The main reason for the absence of evidence-based policies and the lack of data availability is the lack of skilled human resources who work in development fields, which prevents sophisticated and integrated planning. In addition, there are no specialized institutions that can independently undertake and periodically take up assessments.

According to the Law on Development Policy Planning in Mongolia, the monitoring and evaluation process of long, medium, and short-term planning documents is clearly defined as well as relevant stakeholder participation, including the government, state, and non- government institutions. Nevertheless, it is true that some line ministries are not able to meet the requirements.

1.2. What to Share?

Korea demonstrated the importance of knowledge in a nation’s socio-economic development. In a single generation, Korea successfully transformed itself from poverty to a knowledge-based economy, leveraging the knowhow from advanced economies. Korea was under Japanese colonial rule for the 36 years from the beginning of the 20th century. After colonial rule ended in 1945, the US military government reigned on Korean peninsula until 1948. When the Korean government was established in 1948, the per capita GDP in nominal terms was less than USD 100. The Korean government knew that it would be nearly impossible to adapt the Japanese or American model to the local conditions because of substantially different circumstances.

Thus, the sharing of knowledge and experience was not popular in Korea during the early stages of the developmental process, because Korea did not have a country to emulate. Compared to advanced countries, Korea progressed slowly while countries with a similar level of income exhibited vast differences. As a result, Korea overcame its challenges independently.

In 2004, the Korean government launched the Knowledge Sharing Program (KSP), a comprehensive platform designed to meet rising global demand for Korean developmental experience. Aiming to share knowledge with its partner countries, the KSP represented a

034 new paradigm in developmental cooperation based on the partner countries’ needs and

Strengthening Economic Development Planning and Infrastructure Funding for Mongolia policy demands.

In the realm of the KSP, the Korean government engaged in developmental cooperation with 85 partner countries in all of the regions of the world, including Africa, Asia, the Middle East, Latin America, the Caribbean, and Europe.

The primary goal of the KSP is to provide comprehensive policy recommendations to partner countries based on in-depth analysis of specific policy issues considering the particular circumstances of the partner countries. The KSP is constantly seeking to find new ways to resolve policy issues underpinned by mutual learning experience. Korean experts and policymakers of the partner country work together from the beginning to the end to provide a desirable policy orientation.

Currently, knowledge sharing is widely accepted as an effective tool in economic development. With an accepted consensus on its importance, international institutions including OECD, the World Bank, and a few advanced countries have strived to organize knowledge sharing programs to support developing economies. The UN’s Sustainable Development Goals (SDGs) also consider knowledge sharing as an important means to achieve shared prosperity.

However, the Korean developmental process includes not only bright aspects but also darker dimensions. Considering the fact that most Korean success stories are well known to international community, "failures" could prove increasingly valuable. Even though Korea did not have a country to share knowledge with during the developmental process, the nation learned the importance of knowledge from past experiences. Knowledge is at the base of effective developmental policy. Knowledge makes a significant difference in a country’s economic performance.

1.3. Mongolia and Korea

Mongolia and Korea have a lot in common, including a long painful history of surviving adversity. Nevertheless, both countries have achieved democratization along with economic growth. To compare the economic performances of Mongolia and Korea, let’s start with per capita GDP. Mongolia and Korea showed similar income levels until the 1970s, but since the early 80s, the gap between the two countries has begun to widen. Mongolia missed the momentum of growth by introducing economic policies based on socialism and nationalism until the early 1970s, while South Korea accelerated an export-led industrialization strategy adopted in the middle of 1970s, laying the foundation for its economic leap forward. 035 Chapter

[Figure 1-2] Per capita GDP: Mongolia and Korea

(Unit: USD) 01 Institutional Set-up and Governance for Integrated Development Planning

35000

30000

25000

20000

15000

10000

5000

0 1960 1963 1966 1969 1972 1975 1978 1981 1984 1987 1990 1993 1996 1999 2002 2005 2008 2011 2014 2017

KOR MNG

Source: WDI. In Mongolia, as shown in the figure below, the share of manufacturing declined sharply since the early 1990s. As of 2017, the share of manufacturing in terms of value added and employment standards are respectively 8% and 7.5%. Whereas the share of the service sector in terms of employment is 50.5%, the share in terms of value added is 52%. The overall productivity of the service sector in Mongolia is slightly higher than that of manufacturing, while the productivity of agriculture does not reach half that of the service sector. This productivity gap between the manufacturing and service sectors shows the structural differences between two countries. In contrast to Mongolia, the productivity of the manufacturing sector in Korea is twice as high as that of the service industry. The two countries have their own challenges regarding productivity. Mongolia has to enhance the productivity of its agriculture while Korea has to improve its service sector’s productivity.

[Figure 1-3] Manufacturing Share to GDP: Mongolia and Korea (Unit: %)

35

30 036 25 Strengthening Economic Development Planning and Infrastructure Funding for Mongolia

20

15

10

5

0 1960 1962 1964 1966 1968 1970 1972 1974 1976 1978 1980 1982 1984 1986 1988 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010 2012 2014 2016

KOR MNG

Source: WDI. [Figure 1-4] Employment of Manufacturing: Mongolia and Korea (Unit: %)

30.0%

25.0%

20.0%

15.0%

10.0%

5.0%

0.0% 1963 1965 1967 1969 1971 1973 1975 1977 1979 1981 1983 1985 1987 1989 1991 1993 1995 1997 1999 2001 2003 2005 2007 2009 2011 2013 2015 2017

Korea Mongolia

Source: WDI.

Regarding trade volume, Korea and Mongolia demonstrate similar trends with big differences in volume. In Korea, the share of imports and exports shows a steady increase, 037 except during the crisis of 1997, surpassing 3% of global volume. Accordingly, Mongolia's Chapter share of global trade has been steadily increasing since the adoption of the market economy. 01 Institutional Set-up and Governance for Integrated Development Planning The biggest issue with trade in Mongolia is the lack of diversification of its export products. Mongolia has not been able to escape from export structures that depend only on coal, copper ore, gold, and crude oil for the last 30 years. In other words, Mongolia is failing to diversify export goods because it cannot foster new competitive industries. Without significant improvement in Mongolia's trade facilitation policy, it will be difficult to expect Mongolia to succeed in the diversification of its exports.

[Figure 1-5] Share of Exports and Imports: Mongolia and Korea (Unit: %)

4.00% 0.04%

3.00% 0.03%

2.00% 0.02%

1.00% 0.01%

0.00% 0.00% 1948 1951 1954 1957 1960 1963 1966 1969 1972 1975 1978 1981 1984 1987 1990 1993 1996 1999 2002 2005 2008 2011 2014 2017

Korea, Republic of Mongolia

Source: WDI. Regarding inflation, Mongolia experienced hyper-inflation during the transition period in the early 1990s. Since the adoption of the market economy, Mongolia has maintained a relatively stable price level.

[Figure 1-6] Inflation: Mongolia and Korea (Unit: %)

350

300

250

200

150

100

50

0

-50 1960 1962 1964 1966 1968 1970 1972 1974 1976 1978 1980 1982 1984 1986 1988 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010 2012 2014 2016

Korea, Rep. Mongolia

038 Source: WDI. Strengthening Economic Development Planning and Infrastructure Funding for Mongolia

Mongolia and Korea are basically countries where capital contributed the most to economic growth among the factors of production. Investment in Mongolia is as high as that of Korea, reaching higher than 30%. The investment rate in Korea peaked at 41% in 1991, and now remains at the level of 30%. Mongolia’s investment rate, peaked to 58% in 2011, and now stands at 36%, exceeding that of Korea. The major challenge of investment in Mongolia is the extreme volatility. According to local experts, given that most investments are concentrated into small numbers of mining sectors, changes in commodity prices and FDI policies could cause high volatility in investments. [Figure 1-7] Investment to GDP: Mongolia and Korea (Unit: %)

80

70

60

50

40

30

20

10

0 1960 1962 1964 1966 1968 1970 1972 1974 1976 1978 1980 1982 1984 1986 1988 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010 2012 2014 2016

Korea, Rep. Mongolia

Source: WDI.

2. Economic Development Plan: An Integrated 039 Approach Chapter 01

2.1. History and Concept Institutional Set-up and Governance for Integrated Development Planning

The Soviet Union was the first country to adopt and implement the First Five-Year Plan in 1929. Under the influence of the Soviet Union, India prepared a ten-year EDP aiming at doubling the national income in 1933 (Kang 2000). During the Second World War, market economy countries relied heavily on planning for resource allocation. The Western countries realized that ambitious plans could be carried out successfully in emergency. Even after the war, the continued shortage of resources made it necessary for most Western countries to resume wartime resource planning. France was the first country in market economy countries to undertake its reconstruction and development plan based on multi-year plans with the establishment of special institutions such as the Commissariat General du Plan. The European Recovery Plan, otherwise known as the Marshall Plan, which started in 1948, helped spread planning activities across European countries because it contributed to the realization of the EDPs in European countries like France, by securing the financing for a large part of the investments in the basic sectors.

EDPs have been introduced in developing countries in Asia, the Middle East, Africa, and Latin America initially to plan the use of the grants and concessional loans they received from international organizations and advanced countries. (Waterson, 1965) As the foreign aid in developing countries diminished with the end of the Cold War, planning became more and more important for the construction of the self-sustaining economies in developing countries. In particular, the Colombo Plan of 1950 served as a catalyst for stimulating planning activities to spread out in South and Southeast Asia. Since the 1960s, most of developing countries in the world have formulated EDPs in one way or another (Kang, 2000).

A plan is a program for future activities while planning is the process of creating and implementing the programs. A plan is different from a decision, an act of choosing among alternatives; a forecast, an act of predicting future events; or a policy, meaning a general direction for decision-making. A plan is a very comprehensive concept encompassing decisions, forecasting, policies, and government intervention all at once (Park et al. 2018). Therefore, a national plan is a comprehensive and systematic action plan to use national resources to achieve goals in a given period of time (Kang, 2000).

2.2. New Approach

EDPs can be distinguished in different ways. On one hand, there are the EDPs of socialist 040

Strengthening Economic Development Planning and Infrastructure Funding for Mongolia countries in contrast to those of market economy countries. On the other hand, there are the EDPs of developing countries compared to the EDPs of advanced Western countries. Despite obvious differences across countries, policymakers envisaging formulating EDPs face common challenges depending on the stages of the process of the EDPs.

The UNDP (2016) suggested an integrated planning framework for sustainable development based on five areas: strengthening institutions and governance systems, evidence-based and empirically backed policy options, the development of budgeting and financial systems, monitoring and evaluation, and capacity development. Each area contains three to five conditions for effective development planning and its execution. (See Table 1-1 below) Most of the conditions are extracted from the UNDP (2016) whereas four conditions were added based on Korea’s experience with EDPs. The newly added conditions are securing political leadership and determination as well as establishing a planning institution with a legal mandate in Area 1 (Institutions and Governance), using forecasting models and statistical tools to formulate specific targets in Area 2 (Evidence-based policy options), and establishing an iterative feedback process in Area 4 (Monitoring and Evaluation).

New Framework for EDP

1. Strengthening Institutions and Governance System

1.1. Establishing a National Vision and Strategy

1.2. Enhancing Coherence and Coordination Across Ministries, Civil Society, and the Private Sector

1.3. Securing Political Leadership and Determination

1.4. Establishing a Planning Institution with a Legal Mandate

2. Evidence-Based, Empirically Backed Policy Options

2.1. Creating Reliable and Complete Data

2.2. Better Information Sharing with Agencies, Sectors, and Civil Society

2.3. Promoting Participatory Approaches for Evidence-Based Policy Making

2.4. Building Capacity Across Government and Specialized Agencies

2.5. Using Forecasting Models and Statistical Tools to Formulate Specific Targets

3. Development of Budgeting and Financial System

3.1. Connecting the Development Plan with the Budget 041 3.2. Effective Financing Mechanism to Meet the Costs Chapter

3.3. Creating Incentives for the Private Sector 01 4. Monitoring and Evaluation Institutional Set-up and Governance for Integrated Development Planning

4.1. Establishing a Tailored Evaluation System

4.2. Coordinating with Line Ministries (Especially the Statistics Department)

4.3. Establishing an Iterative Feedback Process

5. Capacity Development

5.1. Greater Comprehension on the Necessity of Plans, Planning, Coordinating, and Appraisal

5.2. Greater Support to Subnational Government Agencies and Increased Coordination with them

5.3. Greater Awareness of the Benefits and Opportunities for the Private Sector

5.4. Greater Awareness of the Right to Participate and Build Capacity in Civil Society

Source: Authors own based on the UNDP (2016).

EDPs in Mongolia as well as in Korea will be diagnosed under the integrated framework. Before assessing the performances of the EDPs of the two countries, the conditions in each core area will be examined in more detail. 2.2.1. Strengthening Institutions and Governance Systems

One of the major challenges of EDPs in most countries is that planning institutions are separated in different sectors and no one institution has the mandates and resources to put them together. A strong planning institution with such mandates and resources would ensure policy coherence for EDPs. For the successful implementation of EDPs, the UNDP (2016) emphasized policy coherence and coordination across ministries, civil society, and private sectors as well as the establishment of visions and strategies. Hardly mentioned in the UNDP (2016) was political leadership and determination accompanied by leaders’ attention to EDPs. It would be better if the central planning institution has been given the authority to prepare EDPs through the legislature. If EDPs are made into law, their implementation could be more binding and more effective. Thus, we added these two condition, securing political leadership and determination and legal mandate, as essential for the success of EDPs.

2.2.2. Evidence-Based, Empirically Backed Policy Options

042

Strengthening Economic Development Planning and Infrastructure Funding for Mongolia The complexity of planning makes evidence-based and empirically backed policy making all the more important. EDPs vary greatly in their detail, complexity, and comprehensiveness, mostly because they lack not only reliable data but also empirically backed policy options. A lack of capacity for empirical work, including data analysis and/ or insufficient compensation for staff, can also hamper the quality of EDPs. Regarding the evidence-based and empirically backed policy options, the UNDP (2016) elaborated on the creation of reliable data, information sharing, participatory approaches, and capacity building.

In many developing countries, the non-coherence of specific targets and overly ambitious targets undermine the effectiveness of EDPs. Hence, targets should be set realistically with statistical models and reliable data. Therefore, we added the condition of using forecasting models as one of the indicators.

2.2.3. Development of Budgeting and Financial Systems

Most developing countries are facing a drastic shortage of funding required to meet the goals of EDPs. Linking planning to budgeting is considered one of the most integral parts of EDPs. In order to implement EDPs effectively, the planning authority should work together with the budget authority. But coordination between the planning authority and the budgeting authority could be very difficult because the planning cycle does not coincide with the budgeting cycle and responsibilities are divided between different authorities. Regarding this core area, the UNDP (2016) stressed the importance of connecting the plan with the budget and creating incentives for the private sector.

2.2.4. Support for Monitoring and Evaluation (M&E)

Although most of developing countries have established M&E systems for EDPs, these systems are often found ineffective. One of the main roles of M&E is to provide feedback into planning and policymaking, adjusting policy design and formulation. However, because these systems are not working well, the results of M&E are not fed back into the next cycle that starts from policymaking and goes to implementation. If this continues, M&E activities could all be disconnected from each other. M&E is a labor-intensive and expensive procedure. But M&E is important for keeping EDPs up to date and revising the strategies continuously to achieve the goals. The UNDP (2016) included tailored evaluation systems, capacity building, and coordination with line ministries as conditions of Area 3. From our experience with Korean EDPs, we added the establishment of an iterative feedback process as a supplementary condition. 043 Chapter

2.2.5. Capacity Development 01 Institutional Set-up and Governance for Integrated Development Planning According to the UNDP report, it is not the lack of financial resources but insufficient administrative capacity that often blocks the implementation of EDPs in developing countries. In particular, weak and malfunctioning planning institutions have had a negative impact on developing skilled staffs. Therefore, it is essential for the planning institution to be equipped with technical skills to collect and analyze data, develop policy options and make appropriate choices, implement the plans, and monitor and evaluate the results. (Park et al. 2018) Regarding capacity development, the UNDP (2018) included comprehension of the necessity of EDPs and support to subnational government agencies as conditions of Area 5.

3. Economic Development Plans in Mongolia

3.1. The History of Mongolian Economic Development Policy

Mongolia has approximately a century of economic development policy experience and has been transforming with the system’s changes (Figure 1-8). It started in 1924 with the establishment of the Economic Council under the State planning regime. Until the beginning of the 1990s, Mongolia was a People’s Republic under the Soviet system. [Figure 1-8] Timeline of Development Institutions

TIMELINE OF DEVELOPMENT INSTITUTE 2016 Present 1945 2009 “National Development Agency” “Commission “National Development charge of long term policy and of State Plan” Innovation Committee” regionalized development policy

1924 1992-1996 2012-2014 “Economic “National “Ministry of Economic Council” Development Development” Agency”

TIMELINE OF MINISTRY OF FINANCE 2016 Present 1943 “Ministry of Finance” “Ministry of charge of medium and Finance” In charge of Development short term policy Policy Planning

In charge of Development 1924 2004 2009 2014 Policy Planning “Economic Ministry of Council” Finance

Source: The Ministry of Finance. 044 Strengthening Economic Development Planning and Infrastructure Funding for Mongolia 3.1.1. Economic‌ Development Policy Planning under Centrally Planned Economic System

A. 1924-1945

In November 1924, Mongolia People’s Republic announced its independence and approved its first Constitution after Monarchy system. It is imperative to understand that this law assured the direction of the national economy and stated that the country’s economic policy was to be concentrated in the hands of the State and it was led by the Mongolian People’s Republic Party (MPRP) (Butler, 1982). Within this framework, the highest agencies of the State power comprised organization and planning of the national economy of the Republic. At this time, the Economic Council was established under the government. This Council was responsible for implementing corporate financial policy with special attention at the national level as well as collecting statistical information. More importantly, the Economic Council was actively engaging in future economic development policy and planning while confiscating all property from feudal and allocate to Mongolian arats1 and accelerating the collectivization of arats.

However, the Economic Council was abolished in 1932. At the same time, the National

1 Arats- Mongolian herdsmen during that time (Wikipedia, 2018). Planning and Statistics Agency was established and took over the responsibilities of the Economic Council. This agency was responsible for advocating State monopoly for foreign trade and industrialization.

In 1940, the new Constitution was adopted and reasserted a commitment to national economic planning in the 4th Article, “The development of the Mongolian People’s Republic along a non-capitalist path and the transition to socialism shall be ensured by the effectuation, on the basis of a State plan, of a transformation in economic, cultural, and social life.” (Butler, 1982). With this change, the National Planning and Statistics Agency was abolished and transferred into the Planning, Statistics and Monitoring Agency. Annual plans were approved by the Central Committee of the MPRP and enacted for the first time in 1940.

However, similar to previous organizations, this agency was terminated in 1945. The reason is that the MPRP Central Committee decided to initiate long-term national economic planning. But the scope and roles of the National Planning and Statistics Agency were insufficient to plan and monitor all of national economic development activities over the long term as well as collect statistics. 045 Chapter

Therefore, the Commission of State Planning was established under the 106th resolution of the State Baga Khural2 (Lower house) in November 1945. 01 Institutional Set-up and Governance for Integrated Development Planning

B. 1945-1990

The Commission of State Planning was attached to the Council of Ministers and planning sections were opened in the aimags’3 executive administrations. The main roles of the Commission of State Planning were as follows: To formulate and implement economic and social development planning for a one-year, five-year, and further 10 to 15-year periods; To organize the work of drafting national industry development; To organize the work of registering performance statistics; To register and allocate materials and other kinds of funds as well as monitor spending; To monitor and evaluate the implementation of national industrial and corporate planning and the decisions and resolutions of the People’s Republic Party.

In 1947, the MPRP confirmed that they would implement a five-year plan for Mongolia’s development. Subsequently, in 1949, the first five-year plan was formulated by the

2 During the Soviet system, Mongolia used to have two parliaments: Great and Baga. The State Great Khural was a legislature body and it delegated much of its power to an executive committee: the State Baga Khural (Wikipedia, n.d.). 3 According to the Constitution, the territory of Mongolia is divided administratively into aimags and a capital city. Mongolia has 21 aimags and one capital city (The Constitution, 1992). Commission of State Planning and approved. It was the very first time for Mongolians to initiate national long-term policy planning. This plan aimed to increase production capacity and to support collectivist actions while improving the society’s well-being.

After reviewing the results of the first five-year plan, the second five-year plan for 1953- 1957 was approved in 1954. This plan purported to continue with major economic targets, including livestock sector development, strengthening grain production, the expansion of electrification, and international economic cooperation (Hays, 2016).

The second long-term planning was followed by a three-year plan for 1958-1960. In 1960, the Constitution was renewed and strengthened the commitment to economic planning. For example, the15th Article of the Constitution says that “The economic life of the Mongolian People’s Republic shall be determined and directed by a single state economic plan” (Butler, 1982). Then, regular five-year plans were resumed with the Third Plan (1961-1965) and successive plans until 7th five-year plan (1981-1985).

During that time, the State planning mechanism involved the Commission of State 046

Strengthening Economic Development Planning and Infrastructure Funding for Mongolia Planning, the Ministry of Finances, the State Bank, the State Committee for Science and Technology, planning sections of ministries and departments, local planning commissions, and respective sections of enterprises and economic organizations.

Among these institutions, the Commission of State Planning played a central role for fulfilling the plans. It drew up national scale and provided methods and directives to other institutions. By doing so, this institution used to forecast long-term socio-economic outputs and draw up plans with the aid of a group of Soviet specialists, and develop long-term forecast methods for Mongolian conditions. For instance, the Commission of State Planning made projections up to 1990 and even up to 2000. In this sense, the staff in this institution were all expected to be skilled and qualified. But due to the high demand, staffing numbers were expanded as the years went by. In 1970, the number of workers reached 175 persons from 50 in 1950 (Butler, 1982).

The Commission of State Planning had been successfully overseeing economic development policy planning for four decades while attached to the Minister’s Council. However, with the collapse of the Soviet system, this commission was abolished in 1990. 3.1.2. Economic Development Planning under a Market-Oriented System

A. 1990-1996

Following the collapse of the Soviet Union, Mongolia began its transformation from a centrally planned economy to a market-based economy in the early 1990s (Cheng, 2003). During this transition period, many reforms had taken place, including the winding up of the State Planning Commission and the establishment of various other institutions. At this time, it was realized that there should be an institution that determines development policy, working instead of the Commission of State Planning. Therefore, the Ministry of National Development was established in 1990. The Ministry of National Development formulated the “Human” project that covers three-year period objectives and submitted them to the government. This policy document was approved by the government in July 1992.

But, in 1992, new a constitutional law was approved by the Parliament and it clearly defined the duties, roles, and responsibilities of the Parliament and the government (Constitutional law, 1992). With this law, the Government of Mongolia changed its structure and abolished the Ministry of Development policy. Instead, the National Development 047

Agency was established under the Prime Minister, and a cabinet member was working as the Chapter general director. This agency was working as the main institution in charge of development policy and planning for a four-year period while working with the same status as ministries. 01 Institutional Set-up and Governance for Integrated Development Planning The main role of this agency was to provide coherence in development policy documents and to monitor their implementation. This institution worked out on the first Government Action Plan for 1992-1996 and submitted to the Parliament for the approval.

In addition, the National Development Agency initiated first long-term development policy document “Development vision until 2021” and it was approved by the Parliament in 1996. It was first attempt for Mongolians to draft a long-term policy document in a market economy. The drafting procedure for this policy document included research institutions, academies, ministries, and agencies. Also, establishing a free economic zone as part of the regional planning design was considered and enacted (Ministry of Finance and Association of Accounting and Financing Resources, 2007). In other words, the National Development Agency was responsible for working out long, medium, and short-term policies while acting on the same level as a ministry, sometimes above ministries.

As a consequence of the election in 1996, the government structure was also changed and terminated the National DevelopmentAagency. After this change, there was no institution responsible for the work on development policy and planning. In other words, the planning of economic development policy was abandoned due to the unstable legal and political environment. B. 1996-2008

Since 1996, no such institution has been integrating national development policy, resulting no coherent and integrated policies. During this period, the Ministry of Finance and Economy (The Ministry of Finance nowadays) was in charge of formulating an annual plan: Socio-economic guidelines and submitting it to the Parliament since it is the government’s obligation to fulfill economic and social development guidelines according to the Constitution.

Also, the government was legally obligated to formulate Government Action Plans. During this period, four Government Action Plans were approved and implemented: Action plans for 1996-2000 (61st resolution of the Parliament in 1996), 2000-2004 (33rd resolution of the Parliament in 2000), 2004-2008 (21st resolution of the Parliament in 2004) and 2008-2012 (35th resolution of the Parliament in 2008).

But there was no legal obligation to fulfill the integration of development policy planning. Therefore, many sectors announced them as a priority sector for national development 048

Strengthening Economic Development Planning and Infrastructure Funding for Mongolia and formulated their own strategies. For instance, by the beginning of 2010, there were 416 development policy documents, including State policy, master planning, sectoral, and guidelines.

The Millennium Development Goals-based Comprehensive National Development Strategy of Mongolia was approved by Parliament resolution in January 2008. This strategy was to be implemented for a fifteen-year period from 2007 to 2021. This was the second attempt at long-term policy formulation for democratic Mongolia after the Soviet system.

Development policy documents for the medium and short term are based on and coordinated with this strategy (The World Bank, 2007). The strategy comprised 120 objectives and approximately 500 actions regarding all of the sectors’ development for two-stage implementation.

Meanwhile, the Government Action Plan for 2008-2012, approved by 35th Parliament resolution in 2008, considered many dimensions of development such as for the economy, society, politics, environment, and regional development and also attempted to include all social classes as well as all group of people: young, middle-aged, elders, disabled people, and other laborers.

Additionally, during the period of 2001-2008, long-term master plans for some sectors were formulated and some of them enacted, such as the Road Master Plan /2008-2020/, the Educational Sector Development Master Plan /2006-2015/, the Energy Sector Master Plan /2001-2020/, the Construction Master Plan Until 2020, the Innovation And Science Master Plan, the Coal Sector Development Plan, and the National Tourism Development Master Plan.

However, these policy documents were not holistically inter-connected to each other, resulting in no coherence (Ministry of Finance, 2015). As a long-term policy, National Development Strategy was supposed to be considered in medium and short-term policy documents, including the Government Action Plan, medium-term policies, and annual budget and socio-economic guidelines in accordance with Parliament resolution.

Nonetheless, let’s reveal these inconsistencies in the following section.

The Government Action Plan for 2008-2012 adopted only four activities from 21 activities of the National Development Strategy Regarding Education (Ministry of Finance, 2015). Also, in terms of health sector, only 8 activities of 23 in National Development Strategy were 049 embraced. Also, some actions considered in the Government Action Plan are not based on Chapter technical and economic analysis, making them unrealistic to implement. Sometimes, the

Government Action Plan activities abandoned sectoral analysis and evaluation as well as 01 Institutional Set-up and Governance for Integrated Development Planning their impact on the economy and society.

In terms of the energy sector, the sectoral master plan does not match with the activities in the National Development Strategy and the Government Action Plan. For example, reducing energy imports and increasing domestic energy supply was the main objective of the Energy Master Plan while it was not considered in the Government Action Plan.

Moreover, the conceptual framework of sectoral policies is not consistent among the various policies, for instance, the health targets in the Government Action Plan advocated more about private sectors and market instruments while actions in the National Development Strategy were not, even though these policy documents are formulated in 2007 and 2008.

In terms of regional long-term planning, some objectives and priorities are not consistent with the National Development Strategy although the conceptual framework sometimes overlapped. Also, most aimags have their own long-term planning, nevertheless their impact analysis is abstract and cooperation between administrative bodies is ambiguous. In general, it can be said that although long and medium-term policy documents are approved by the Parliament, they are not consistent with each other. In other words, it is likely that the actions in medium-term policies are not considered in long-term policy documents. It has a major impact on the low implementation levels. For example, according to the research covered in 99 policy documents during this period by the Cabinet Secretariat of Government in 2015, implementation is vague in approximately 60 of them while 30 documents’ implementation level is only 50 percent (Ministry of Finance, 2015). The main reasons for this are that there is no single institution that is in charge of integrating all the policy documents as well as lack of a legal environment for integrating policy document concepts and activities.

In addition, it is imperative to note that policy document formulation is not qualitative and standardized since there was no requirement for formulating development policy documents.

C. 2009-2012

050 Development policy documents that target social and economic enhancement have been Strengthening Economic Development Planning and Infrastructure Funding for Mongolia approved and implemented, however, they were not connected to each other. This situation brought to light that there should be an institution that is responsible for integrating development policy documents. In order to improve this situation, the Government of Mongolia decided to resume the National Development Agency, but this time the National Development and Innovation Committee (NDIC) under the Prime Minister was established as a government regulating agency with 8th Order of the Prime Minister in 2009 (The Government, 2009).

The main roles of the NDIC were to appropriately working out planning issues for amending social and economic balance, efficient supply of reserves, sectoral policy coordination, and providing economic security by conducting accurate research.

Within this framework, the NDIC was formulating annual socio-economic guidelines and submitting them to the government as well as conducting technical economic feasibility studies on some projects that have a major impact on the socio-economy. For instance, the NDIC organized work on the Socio-economic Guidelines of 2011, 2012, and 2013 (The Parliament, 2010, 2011, 2012). The drafting procedure of the annual Socio-economic Guidelines was same as the status quo. Line ministries were obliged to provide their proposals to the NDIC by 1st of April. Then, the NDIC was expected to submit them to the government by the 1st of May in accordance with “Drafting procedure of Formulating Socio- economic Guidelines”, which was approved by 88th Resolution of the Government in 2004 (The Government, 2004).

In addition, the NDIC initiated the first draft of the Law on Development Policy Planning, which was a fundamental action for the current legal environment on development policy planning.

However, since the NDIC was a regulating agency whose status is lower than a line ministry, the NDIC was unable to integrate policies and development policy documents among ministries and other administration-level bodies.

D. 2012-2014

Although the creation of the NDIC provided a situation to help integrate Mongolia’s long, medium, and short-term development policy documents as well as regional and local development planning, its status made it impossible to oversee ministries and organize legal means to integrate policies and provide guidelines to ministries.

051 Therefore, after the election in 2012, the newly established government decided to Chapter change the status of the NDIC. This resulted in the establishment of the Ministry of Economic

Development on the basis of the NDIC. The 63th Resolution of the Government in 2012 01 enabled the Ministry of Economic Development to organize national development policy Institutional Set-up and Governance for Integrated Development Planning planning with sectoral and local coordination and to improve the legal environment on development policy planning. To be more specific, this ministry was responsible for acting as a main body to formulate, implement, and monitor development strategies while providing concept and action coherence of all development policy documents.

There were six departments in the Ministry of Economic Development, such as the Department of Development Policy, Strategic Planning and Regulation, the Department of Economic Cooperation, Loan and Aid Policy, the Department of Foreign Investment Policy, Regulation and Registration, the Department of Innovation and Policies on Public Private Partnership, the Department of Public Administration and Management, and the Department of Monitoring and Evaluation.

Among these departments, the major unit that was responsible for development policy planning was the first one, the Department of Development Policy, Strategic Planning and Regulation. This unit had four divisions: integrated planning, public investment policy, sectoral policy and regulation, and trade policy.

It is notable that the foundation of the Ministry of Economic Development was one of main stimulants for development policy integration and consistency in a way that integrating the major duties for national development policy planning.

Although this ministry used to have various duties, rights, and responsibilities in relation to development issues, its capacity to be inclusive was low. Also, the Economic Development Minister attracted attention for bribery issues regarding bond expenditures, resulting in the Ministry of Economic Development being dissolved. Therefore, this ministry was the shortest-lived ministry in history. It only lasted for two years.

E. 2014- present

A new government was established in 2014 and the Ministry of Economic Development was not in the list of ministries. After this ministry’s abolition, its departments were allocated to other ministries and agencies. The main department for development policy planning, development policy, strategic planning, and regulation department moved to the Ministry of Finance, since the government decided to give the responsibility for development issues to the Ministry of Finance. More specifically, the Integrated Planning and Public Investment 052 divisions were integrated to the Ministry of Finance. Therefore, formulating national Strengthening Economic Development Planning and Infrastructure Funding for Mongolia development policies of long, medium, and short-term forecasting of macroeconomic indicators and planning public investment policies became additional roles of the Ministry of Finance. These two divisions became separate departments in the Ministry of Finance: the economic policy department and the public investment department.

Here and now, the economic policy department comprised two divisions: the macroeconomic policy division and the development policy planning division. The major roles of the Ministry of Finance in terms of development policy planning can be summarized into five missions: 1) To formulate medium-term development policy and short-term socio-economic guidelines; 2) To coordinate and formulate social development policy and strategies to improve the livelihoods and living standards of the population and its growth; 3) To formulate development planning approaches and mathematical modeling for development policy planning and projection; 4) To coordinate and integrate sectoral and cross-sectoral development policy planning and ensure its consistency; 5) To monitor and evaluate the implementation of sustainable development goals and ensure its medium and short-term achievement.

With the transition from the Ministry of Economic Development to the Ministry of Finance, the project Strengthening the Government Capacity of National Development Policy and Planning moved with the integrated planning division to the Ministry of Finance. With assistance from this project, the Ministry of Finance continued the formulation of the Law on Development Policy Planning. This law was approved by the Parliament in late November 2015. The drafting procedure of this law considered the opinions of representatives from all groups: line ministries, agencies, local and State administrations, research institutions, academies, and individuals through organizing meetings with them.

The enactment of the Law on Development Policy Planning made it possible for Mongolia to integrate development policy and planning as well as clearly define the roles, duties, rights, and responsibilities of relevant participants in a legal framework.

After this law’s enactment, the economic policy department formulated a draft of General Regulation on Development Policy and Planning Document Formulation with assistance from the “Strengthening the Government Capacity of National Development Policy and Planning” project. This regulation was introduced to the government for discussion and approved in May 2016.

Furthermore, Mongolian Sustainable Development Vision-2030, in consistent with the world Sustainable Development Goals and the Law on Development Policy Planning, was submitted by the Ministry of Finance, and approved by the 19th Resolution of the Parliament 053 Chapter in February 2016. 01

In a sense of long-term development policy documents, the Sustainable Development Institutional Set-up and Governance for Integrated Development Planning Vision is expected to be the basis for other development policy and planning documents. Therefore, the Ministry of Finance, with assistance from the Cabinet Secretariat of Government, formulated the Government Action Plan for 2016-2020 in accordance with the Sustainable Development Vision. The action plan was approved by the 45th Resolution of the Parliament in September 2016.

According to the Law on Development Policy Planning, the responsibilities for the long- term and regional development planning and public investment program were allocated to the National Development Agency, built as a government regulating agency in August 2016.

The National Development Agency has been responsible for the following five missions: 1) To develop comprehensive development policy; 2) To determine the priority sectors of the economy and the to develop the tendency of the sectors development; 3) To develop regional development policy; 4) To plan and develop the main strategy on integrated investment and foreign investment policy and to conduct comprehensive activities to attract and promote foreign direct investment into the country; 5) To develop policy on public and private partnership(PPP) and concessions and to organize the implementation of concession projects. Since its establishment, the National Development Agency formulated the “Three Pillar Development Policy”, reflected in the Government Action Plan 2016-2020 and Public Investment Program for 2018-2020, and this policy was approved by the 42nd Resolution of the Government in 2018. It also contributed to the approval of renewing the General Regulation on Drafting Procedure of Development Policy Planning.

Meanwhile, the Ministry of Finance is responsible for the medium and short-term development policy planning mentioned above. Following this framework, the Ministry of Finance successfully formulated the Socio-economic Guidelines for 2017, 2018, and 2019.

In terms of medium-term development policy documents, the Ministry of Finance gave permission to submit the government discussions on 37 national programs and six State policies out of 65, which are included in the 121st Resolution of the Government, in accordance with the Law on Development Policy Planning to date such as National Program on Energy Saving, the National Program on Environmental Health-2, the National Program on Livestock Health, the National Program on Developing General Flight, the Gold-2 Program, the Sectoral Program on Crude Oil, and the State Policy on Road Sector 054 Development. If the policy documents do not meet the requirements that are put in the Strengthening Economic Development Planning and Infrastructure Funding for Mongolia Regulation on Drafting Procedure of Development Policy Planning Documents, the Ministry of Finance simply advises the body that formulated that policy document.

Assessment of Historical Development Policy Planning

2014- 1924-1945 1945-1990 1990-1996 1996-2009 2009-2012 2012-2014 Present

1. Strengthening‌ Institutions and ⋏ ⋏ ⋏ ⋏ ⋏ Governance System

2. Evidence-based,‌ Empirically Backed ⋏ ⋏ Policy Options

3. Development‌ of Budgeting and Financial ⋏ Systems

4. Support‌ for Monitoring ⋏ ⋏ and Evaluation

5. Capacity Development ⋏

Source : The Ministry of Finance. 3.2. New Tool Kit: An Integrated Approach on Mongolian Development Policy Planning

As mentioned in the introduction section, there are many challenges that Mongolia’s development policy planning is confronted with. In order to reveal these challenges, we need an integrated approach, a holistic way to overcome the challenges. This approach was developed by Korean experts based on the UNDP Synthesis Report and Korean development experiences (UNDP, 2016).

Assessment of Mongolia’s Development Policy Planning

Long Medium Short (Sustainable Development (Government Action (Social Economic Vision-2030) Plan 2016-2020) Guideline 2019)

Legal Practice Legal Practice Legal Practice

1. Strengthening Institutions and Governance System

1-1. Establishing‌ a National Vision O O O O O O and Strategy

1-2. Enhancing‌ Coherence and 055 O △ O △ O △ Coordination Chapter

1-3. Greater‌ Political Commitment △ △ △ on Policy Documents 01 Institutional Set-up and Governance for Integrated Development Planning 1-4. Establishing‌ a Planning Institution with a Legal O O O O O O Mandate

2. Evidence-Based, Empirically Backed Policy Options

2-1. Creating‌ Reliable and Complete △ X △ X △ X Data

2-2. Better‌ Information Sharing with Agencies, Sectors, and O X O X O X Civil Society

2-3. Promoting‌ Participatory Approaches for Evidence-Based △ X △ X △ X Policy Making

2-4. Building‌ Capacity Across Government and Specialized △ X △ X △ X Agencies with the Broad Range of Tools

Continued

Long Medium Short (Sustainable Development (Government Action (Social Economic Vision-2030) Plan 2016-2020) Guideline 2019)

Legal Practice Legal Practice Legal Practice

2-5. Using‌ forecasting models and statistics to formulate specific O △ O △ O △ targets

3. Development of Budgeting and Financial Systems

3-1. Connecting‌ the development O △ O △ O △ plan with the budget

3-2. ‌Effective financing mechanisms O △ O △ O △ to meet the costs

3-3. Creating‌ incentives for the O △ O △ O △ private sector

4. Support for Monitoring and Evaluation

4-1. Establishing‌ a tailored O △ O △ O △ evaluation system 056 4-2. Coordinating‌ with line

Strengthening Economic Development Planning and Infrastructure Funding for Mongolia O △ O △ O △ ministries

4-3. Establishing‌ an iterative O O O O O O feedback process

5. Capacity Development

5-1. \Greater comprehension on the necessity of plans, planning, O △ O △ O △ coordinating, and appraisals

5-2. Greater‌ support for government organizations and O △ O △ O △ increased coordination with them

5-3 Greater‌ awareness of the right to participate and build capacity O X O X O X in civil society

Note: O: Proper, △: Things need to be improved, X: Absent. Source: The Ministry of Finance.

The table above shows a thorough assessment of developmental policy planning’s current situation. There are five core areas: 1) Strengthening Institutions and Governance System, 2) Evidence-based, Empirically Backed Policy Options, 3) Development of Budgeting and Financial Systems, 4) Support for Monitoring and Evaluation, and 5) Capacity Development. We have selected three main categories of development policy planning: long, medium, and short. As representatives of these categories, we chose the Sustainable Development Vision-2030, the Government Action Plan 2016-2020, and the Socio-economic Guidelines for 2019.

We also divided the assessment column into “legal” and “practical”. In Mongolia, it is common that many development policy planning documents are explicitly written down on paper and approved, but, in practice, implementation is at a low level due to insufficient enforcement and other relevant factors which will be revealed further. All the checklists of the five core areas were evaluated in three ways. If the condition was properly fulfilled, then an O was given. If there was room for improvement, then △. If not, an X was given.

3.2.1. Strengthening Institutions and Governance System

One of the major challenges facing integration in most countries is that planning institutions and processes still work along sectoral lines and no one institution has the mandate and resources to pull all stakeholders together (UNDP, 2016). It has also been identified that for many countries integrated planning and policy coherence is a relatively new concept, therefore planning is challenged by a lack of coordination mechanisms, 057 budgets for cross-disciplinary work, and skills and incentives for working together. Chapter

Mongolia also faces the challenge of weak coordination among its institutional sectors. In 01 the pursuit of an appropriate development policy planning system, different development Institutional Set-up and Governance for Integrated Development Planning institutions have been frequently transforming into one another since 1924. This frequent change did not allow skilled capacity to be developed in a stable way, resulting in a lack of skilled staff who are professionals in development policy planning.

A. Establishing a National Vision and Strategy

It is perceived that establishing a national vision and strategy is working well in Mongolia legally and practically. The Ministry of Finance, with assistance from the project called the “Strengthening the Government Capacity of National Development Policy and Planning” project, formulated Sustainable Development Vision-2030 in compliance with global SDGs. It was approved by the Parliament Resolution Number 19 in 2016. This policy document is the most successful one among three attempts for formulating long-term development policy in terms of its scope and participation from relevant stakeholders. This long-term policy document aspires to achieve a stable and diversified economy and society dominated by middle and upper-middle income classes, while ensuring environmental balance and strengthening democratic governance. Within this framework, this policy document purports to implement 14 principle sectors and 44 objectives within three phases by 2030 (The Parliament, 2016). According to the Law on Development Policy Planning, the action program of the government for 2016-2020 needs to be consistent with the Sustainable Development Vision-2030. In the sense of being short term-policy, the Socio-economic Guidelines 2019 is also in accordance with the Government Action Plan for 2016-2020. This guideline totally adopted activities from the Action Plan and attempts to implement approximately 90 percent coordination among the Socio-economic Guidelines for 2019 and the Action Plan for 2016-2020.

Therefore, we believe that the sustainable development vision of Mongolia is holistically able to work as a long-term national vision.

B. Enhancing‌ Coherence and Coordination across Ministries, Agencies, Civil Society, and the Private Sector (Partnerships and Communication)

According to the Law on Development Policy Planning, drafting the duties and roles of development policy documents will be divided into two institutions: The Ministry of Finance and the National Development Agency. In accordance with 7th Article of the Law on Development Policy Planning, the government is obliged to ensure the participation of 058

Strengthening Economic Development Planning and Infrastructure Funding for Mongolia relevant stakeholders, including the State central and local administrative bodies, research institutions, academies, non-government institutions, the private sector, and individuals when drafting development concepts. Following this framework, the Ministry of Finance has the main duty of giving permission to other ministries and agencies to submit proposals to the government. In other words, the Ministry of Finance is holistically integrating development policy documents. At the same time, the National Development Agency is responsible for formulating the Sustainable Development Vision (formulated by the Ministry of Finance), regional policy, and the public investment program.

This distinction between development institutions (the Ministry of Finance and the National Development Agency) implicitly fragments development policy planning’s coherence. For instance, recently, the National Development Agency submitted the “Three Pillar Development Policy” to the government without permission from the Ministry of Finance, although it is mandated to the latter legally. Also, this policy document was not included in the list of national programs approved by Resolution Number 121 of the Government in 2016. Unfortunately, this policy document was approved by the Government’s 42nd Resolution in 2018.

Therefore, it can be perceived that policy coherence among ministries and agencies has not been fully achieved in Mongolia due to its fragmentation provided by the legal environment. C. Greater Political Commitment on Policy Documents

It is imperative to note that political commitment is very important for the successful implementation of development policy planning. Specifically, in Mongolia, it is common that many policy documents are abandoned after government changes.

It has been observed that development institutions have been migrating to other bodies depending on election results. In other words, the government structure is always changing because of elections, influencing on development institutions’ destiny. Once the institutions change, continuity of the policies faces a critical situation. Many policy documents are not implemented because of lack of policy continuity. According to research covering 99 policy documents by the Cabinet Secretariat of the Government in 2015, implementation is vague in approximately 60 of the documents, while 30 documents’ implementation is only at 50 percent (Ministry of Finance, 2015).

In addition, since many significant development policy documents are passed through the Parliament, it is common that some members of Parliament impose their proposals derived from their ambition or “private” interests, including the electorates’, rather than 059 Chapter national interests. As a result, sometimes their proposals are considered in development

policy documents. 01 Institutional Set-up and Governance for Integrated Development Planning

Thus, we perceive that the political commitment for implementing successful development policy planning is at a low level.

D. Establishing a Planning Institution with a Legal Mandate

As we discussed above, planning institutions, the Ministry of Finance and the National Development Agency, are legally mandated through the Law on Development Policy Planning. Therefore, in terms of three planning documents, the duties, roles, and responsibilities of planning institutions are clear.

3.2.2. Evidence-Based, Empirically Backed Policy Options

A lack of evidence-based policy makes it challenging to integrate planning in many countries (UNDP, 2016). It also challenges Mongolian integrated planning, causing an absence of evidence-based policies and a lack of data availability. One possible explanation is the lack of skilled human resources who work in development fields, which prevents sophisticated and integrated planning from being made. In addition, there are no specialized institutions that can independently undertake and periodically uptake assessments. A. Creating Reliable and Complete Data

Creating reliable and complete data is complicated in Mongolia. The National Statistical Office under the Parliament is responsible for announcing statistical performances, mostly in a quantitative way, including economic, social, and environmental indicators as well indicators related to the Sustainable Development Vision of Mongolia. It is accessible online to everybody. However, this database does not include detailed data on various levels of development policy documents.

Meanwhile, the government organizations do not have integrated database, including quantitative and qualitative data. Thus, it is difficult to use development indicators when drafting policy documents. There is also no integrated database for showing coordination between development policy documents and financial resources, especially State budgets and foreign aid and loans.

In other words, there is lack of coherence across various levels of policy, decision- making, implementation, and review in Mongolia. 060 Strengthening Economic Development Planning and Infrastructure Funding for Mongolia B. Better Information Sharing with Agencies, Sectors, and Civil Society

As mentioned above, there is lack of integrated data in relation to development policy documents in the government institutions due to financial and capacity constraints. Therefore, it is likely that data in respective institutions are inconsistent. Since the ministries and agencies do not have concrete and reliable data, they do not have an interest to share data with others.

C. Promoting Participatory Approaches for Evidence-Based Policy Making

As stated in the General Procedure for Drafting Development Policy Documents under the Law on Development Policy Planning, a situation analysis needs to be conducted. When conducting this analysis, it should involve relevant stakeholders, including State administrative bodies, non-government organizations, academies, research institutions, and other parties in order to expose socio-economic or special targeted groups’ issues.

However, implementation of the law is at a low level in practice. In addition, evidence- based analysis is required to be included in development policy documents. However, a thorough examination of the development policy documents that have been submitted to the Ministry of Finance to get permission shows that their justification is not formulated on a basis of statistical information. For example, if policymakers intend to formulate policy on reducing air pollution, a disastrous crisis of Mongolia, they need to back up their argument with strong statistical data such as how many people are affected by air pollution, especially how many children are, or how air pollution is impacting the people. Unfortunately, they backed up their policy document with vague information such as people are getting sick due to air pollution, etc.

D. ‌Building Capacity acrossGovernment and Specialized Agencies Using a Broad Range of Tools

In Article 22 of the Law on Development Policy Planning, an integrated database and provisions for methodological guidance and strengthening capacity are considered. There are a few tools for analyzing general development trends, including an Input-Output Table, which was announced by the National Statistical Office and “Green Economy -T-21 Mongolia Model”, developed by the Ministry of Finance with assistance from Millennium Institute and UNEP. Unfortunately, these tools are not utilized by the development policy makers due to capacity and financial constraints. 061 Chapter Additionally, one of major reasons for lack of evidence-based policy making is the absence of a research institute that is capable of conducting qualified and evidence-based 01 research for formulating policy documents. It is also difficult for the government institutions Institutional Set-up and Governance for Integrated Development Planning to conduct this kind of research since job positions working in this field are limited.

E. Using Forecasting Models, Statistics to Formulate Specific Targets

In the legal framework of development policy planning, a situation analysis is expected to utilize statistical and quantifiable indicators to set specific targets. This concept is adopted in the Sustainable Development Vision, Government Action Plan, and Socio-economic Guidelines. However, there is no integrated and holistic model to forecast development indicators including economic, social, and environmental indicators. The models were developed using mostly macroeconomic models. The Ministry of Finance attempts to utilize the results of these models for their development indicators.

3.2.3. Development of Budgeting and Financial Systems

It is imperative that development policy planning and financing frameworks are comprehensively and realistically connected (UNDP, 2016). In other words, development policy documents should be backed with financing resources in order to be implemented efficiently. A. Connecting the Development Plan with the Budget

Legally, connecting the development plan with the budget is being considered in Mongolia. According to the Constitution and the Law on Development Policy Planning, the annual budget law is required to be based on the annual Socio-economic Guidelines, which intends to implement long and medium-term development policy documents. In this sense, it can be said that long, medium, and short-term development policy documents are expected to be in coordination with the budget.

In practice, decision-makers tend to ignore a connection between these policy documents. There is a lack of coordination between the Socio-economic Guidelines and budget laws. It is common that the approved activities in the Socio-economic Guidelines are not included in budget laws.

B. Effective Financing Mechanisms to Meet the Costs

The Mongolian stock market and financial markets are still immature. Therefore, 062

Strengthening Economic Development Planning and Infrastructure Funding for Mongolia effective financing mechanisms in development policy planning are not well developed in Mongolia.

C. Creating Incentives for the Private Sector

There are many incentives to motivate the private sector’s participation in development policy planning. The legal environment welcomes both foreign and domestic investments on development and infrastructure projects. There are 247 projects that are capable of being financed through concessional contract. For instance, in 2017, 12 projects estimated at 352 billion tugrik were approved to be implemented through concessional contracts. The majority of them were school and kindergarten buildings as well as road projects (The Parliament, 2017).

In practice, public private partnerships are supported by government institutions. In the pursuit of implementing the Sustainable Development Vision, Government Action Plan, and Socio-economic Guidelines, most of financial sources are public private partnerships. For instance, the Socio-economic Guidelines for 2019 requires 8,725 billion tugrik for its implementation. 57 percent (4,969 billion tugrik) is to be financed through private investment and public private partnerships. 3.2.4. Support for Monitoring and Evaluation

It is argued that although most countries have established monitoring and evaluation systems for development policy and planning, these systems are not often working effectively (UNDP, 2016). One of the main roles of monitoring and evaluation is providing feedback for planning and policymaking as well as adjusting policy design and formulation. However, there is a disconnection between policymaking, implementation, and monitoring and evaluation, which always challenges integrated planning systems.

A. Establishing a Tailored Evaluation System

According to the Law on Development Policy Planning in Mongolia, the monitoring and evaluation process of long, medium, and short-term planning documents is clearly defined as well as relevant stakeholder participation, including the government, state, and non-government institutions. The “General Regulation on Monitoring Evaluation Methods of Development Policy Planning” approved by the 89th Resolution of the Government also clarifies the procedure for monitoring and evaluation. In terms of long-term policy 063

documents, line ministries are responsible for conducting monitoring and evaluation every Chapter two years and submitting the results to the Ministry of Finance by the 1st of September.

Then, the Ministry of Finance is obliged to develop them and submit them to the Cabinet 01 by 1st of October. After this stage, the Cabinet shall introduce them to the government for Institutional Set-up and Governance for Integrated Development Planning discussion in November and subsequently, the government shall introduce them to the Parliament in December.

B. Coordinating with Line Ministries

The legal environment requires coordination among government institutions, including ministries and agencies. Although we have general regulations for the monitoring and evaluation on development policy documents, some line ministries are not able to meet the requirements. It is believed that many staff in development policy and planning bodies are not familiar with the general regulations and the Law on Development Policy Planning.

C. Establishing an Iterative Feedback Process

In accordance with General Regulation on Monitoring Evaluation Methods of Development Policy Planning, the government and Parliament are expected to provide general feedback. But since the monitoring and evaluation process requires labor-intensive and expensive procedures, it is difficult to provide detailed feedback on the respective documents. 3.2.5. Capacity Development

A lack of capacity limits integrated planning at all stages of the planning procedure (UNDP, 2016). A weak institutional set-up has had a negative impact on developing skilled staff who are specialized and practiced in the development policy field, such as lack of skilled human resources working in government and non-government organizations in Mongolia. Hence, appropriate and coordinated evidence-based, empirically backed policies are insufficiently developed. In other words, the lack of skilled human resources could be a main reason that development policy documents are inefficiently formulated.

A. Greater‌ Comprehension on the Necessity of Plans, Planning, Coordinating, and Appraisals

The research conducted by the project named “Strengthening the Government Capacity of National Development Policy and Planning” financed by the UNDP revealed that staff skill and experience working in the development field is considered to be at a low level, only 40 percent of them knew about the appropriate levels (13) of the drafting process of 064

Strengthening Economic Development Planning and Infrastructure Funding for Mongolia development policy documents (Ministry of Finance, 2015). The research covered 154 people who are working in the field of development policy planning at national and local levels. The main purpose was to expose the capacity and skills of the staff for 13 stages of development policy planning, including determining issues, problems, objectives to achieve targeted levels, and planning based on programs. During this research, participants were asked to estimate their capacity skills for the respective 13 stages with an interval of 0-4 scores. 0 means no knowledge about the particular stage and 4 means better knowledge about the particular stage.

Staff in the Field of Development Policy Planning (Average Score)

Average No. Topic Score

1 Work plan of development policy planning 2.40

Conducting a preliminary situation analysis and confronting 2 2.38 problems when drafting development policy planning

Determining main goals, objectives, and targets when drafting 3 2.56 development policy planning

Determining measurable and evidence-based indicators when 4 2.49 drafting development policy planning

Required planning activities in the pursuit of achieving objectives 5 2.56 when drafting development policy planning

Calculation of sufficient human resources for implementing 6 2.34 development projects and programs

Determining and allocating required financial, human resources, and 7 other reserves for achieving objectives when drafting development 2.43 policy planning

8 Budgeting based on development programs 2.38 065 9 Coordination between planning and budgeting 2.35 Chapter

Participation of the relevant stakeholders whose interests are 10 2.33 considered in planning 01 Institutional Set-up and Governance for Integrated Development Planning Formulating simultaneously monitoring and evaluation planning 11 2.20 when drafting development policy planning

Determining further activities based on implementation/ monitoring 12 2.31 and evaluation reports when drafting development policy planning

Categorizing monitoring and evaluation when drafting development 13 2.25 policy planning

Source: The Ministry of Finance.

This research revealed that staff skill and experience working in the development field is considered to be at a low level. Unfortunately, many staff answered that their knowledge about each stage is average. The highest score was 2.56 on the stage “Determining main goals, objectives, and targets when drafting development policy planning”. However, this score is not high enough.

Moreover, 41 percent of the participants answered that knowledge on “Determining main goals, objectives, and targets when drafting development policy planning stage” is good, 43 percent answered that knowledge on “Planning required activities in a pursuit of achieving objectives when drafting development policy planning” is better and 30 percent think that their skill on “Determining further activities based on implementation/ monitoring and evaluation report when drafting development policy planning” is good. Meanwhile, skills for stages on “Calculation of sufficient human resource for implementing development projects and programs”, “Budgeting based on development programs”, and “Categorizing monitoring and evaluation when drafting development policy planning” were evaluated at the low level (Narantungalag, 2015).

B. Greater‌ Support to Government Organizations and Increased Coordination with Them

According to the Law on Development Policy Planning, government institutions such as ministries and agencies are expected to coordinate with one another. Within this framework, the Ministry of Finance should provide general guidelines for integrating development policy documents. However, this framework does not work well in reality. The reason is the working scope and duty of the Development Policy Planning Division in the Ministry of Finance is too broad. However, there are only six people working to integrate the policy documents. Therefore, it is difficult to organize development policy planning at the national level at a high standard. There are also no additional financial sources for

066 improving the current situation in this division. Strengthening Economic Development Planning and Infrastructure Funding for Mongolia

C. Greater‌ Awareness of the Right to Participate and Build Capacity in Civil Society

The legal and practical environment is not conductive for strengthening the capacity of civil society.

4. Economic Development Plans in Korea

4.1. Economic History of Korea

Korea has achieved democratization along with remarkable economic growth during the last seven decades. Korea's economic development process can be explained in various ways. On one hand, experts emphasize the role played by the economic agents such as government, businessmen, or workers for the economic development in Korea. On the other hand, it is often pointed out that Korea’s economic development has been possible largely thanks to the external environment that favored Korea, particularly highlighting the Cold War system and Chinese factors. As a result, Korean economic success can be attributed to both domestic and external factors. However, looking back the history of Korea, most Koreans would agree that Korea has always been in crisis mode. The history of the Korean economy is a history of overcoming challenges and crisis. Therefore, crisis themselves are not an issue, because crisis are always with us. The real problem is whether to ignore the presence of crisis or not to find a proper solution to overcome them.

Since the liberation from Japanese colonial rule, Korea did not have a single day without a crisis. After liberation, Korea could receive large amount of aid from allies by choosing both democracy and a market economy system. The Park Chung Hee government (1962~1979) recorded remarkable performances. It made Korea achieve both growth and equity with export-led industrialization. However, the heavy and chemical industry (HCI)-oriented strategy overheated the Korean economy and ended up lowering the quality of people’s lives. After assassination of President Park in 1979, the next government adopted a stabilization policy and succeeded in enhancing peoples’ lives with market liberalization. Although the government's control was weakened with market liberalization, the private sector was not mature enough to lead the economy. Failure to redefine the role of the government and the incompetence of the private sector caused the crisis in 1997. After that crisis, the private 067 sector actively carried out intensive restructuring and succeeded in recovering global Chapter competence. Therefore, the 1997 crisis is often considered to be a disguised blessing because 01

there was no retreat from liberalization commitments. However, Korea’s SMEs failed to Institutional Set-up and Governance for Integrated Development Planning enter the global market. The gap between large enterprises and SMEs grew at a rapid pace, while the shared growth, which was seen as a Korea's economic miracle, was no longer functioning.

Korea’s economic history is often divided into four periods. The first period is from 1945 to 960, the second from 1961 to 1979, the third from 1980 to 1997, and the fourth from 1997 to now. We will briefly examine challenges of each period and how the Korean government and market responded to them.

Four Periods of Korean Economic Development

Period Challenges Achieved Unsolved Events

Democracy End of Colonial Period 1 Nation-Building Market Economy Poverty Rule (1945~1960) Poverty Land Reform Korean War

High Inflation Poverty Industrial Political Unrest Period 2 Budget Deficit Export-Oriented Restructuring (Coup & (1960~1979) Current Account Industrialization Export Promotion Assassination) Deficit

Overheated Economy Stabilization Crony Capitalism Period 3 Private Sector-Driven (Inflation, Fiscal (Government and 1997 Crisis (1980~1997) Economy Balance) Business)

Moral Hazard and Decline in Both Globalization with Period 4 Crony Capitalism Growth Potential 2008 Global Global Competence (1997~ ) Foreign Reserve and Equity (Social Financial Crisis Reforms in Four Areas Depletion Mobility)

Source: Author’s own.

068 The first period started with the emancipation from Japanese colonial rule in 1945 and

Strengthening Economic Development Planning and Infrastructure Funding for Mongolia ended with collapse of the Rhee government in 1960. During this period, the Korean War broke out and caused the division of the nation. After the emancipation, the US military government reigned on Korean peninsula for three years. The most urgent issue of this period was nation-building. According to a survey conducted by the US military government in August 1946 with about 8,000 Koreans, 77% of the Koreans supported socialism and communism at the time. Nevertheless, with the full support of the American government, the Korean government chose a democracy based on a market economy. Another impending issue of the period was poverty. To solve the poverty problem, the Korean government carried out land reform with a firm belief that Korea’s farm household economy could not be improved without the conversion of land ownership from landlord to tenant farmer. Successful land reform made the vast majority of Korean tenant farmers landowners. With land reform, Korea's market economy could begin to recognize the importance of property right. During the first period, Korea received a huge grant worth 2 billion USD, which was equivalent of almost 50% of the Korean government’s revenue during the period. However, this amount was not enough to redress the Korean economy devastated by the Korean War.

The second period was the period of economic take-off under the President Park regime. The biggest challenge of the period was poverty. To transform a poverty-stricken Korean society into a self-sustaining society, the Korean government adopted an export-oriented industrialization strategy. To promote exports, the Korean government held strictly to the performance-based principle. In order to lay the basis for a self-sustaining economy, the Park regime established an efficient governance system. Accepting the recommendations of the IMF and overseas economic experts, the Korean government devaluated the exchange rate by half and introduced a single exchange rate replacing the multiple exchange rates in 1965. The real exchange rate has maintained a competitive and stable level since then. If exchange rate reform was preparatory work for export-oriented economic management, interest rate reform was necessary to mobilize the domestic capital procurement necessary for industrialization. The rapid economic growth of the 1970s with a growth rate higher than 9% led to macroeconomic imbalances. Excess demand created by the huge investments in the heavy and chemical industry, the fiscal deficits relying on central bank borrowing, and the Middle East construction boom combined with the two oil shocks produced a rapid escalation in inflation (Sakong and Koh 2010).

The need for change was initially felt within Park’s administration by the Economic Planning Board (EPB). In early 1978, the staff of the EPB and economists at the Korea Development Institute (KDI) studied the issues affecting the Korean economy and made efforts to persuade the president to change the policy orientation. A year later, when the Comprehensive Economic Stabilization Program was announced in April 1979, the 069 program touched on the most important parts of the Park’s administration’s policy agenda. Chapter The Stabilization Program contained proposals including a reduction in export subsidies, 01

investments in the HCI as well as subsidies for the rural community. Institutional Set-up and Governance for Integrated Development Planning

The third period was a period of stabilization, trying to transform a government-led economy to a market-driven economy. The biggest challenge of this period was to stabilize the overheated economy. The stabilization program came to take center stage in economic policy in the successor administration of Chun Doo-hwan, who wanted a total disruption from the previous government. Therefore, the Chun administration adopted stability and private sector-driven growth as its slogan. The Stabilization Program was pursued with monetary and fiscal contractions. The annual growth rate of M2 declined from 35% in 1975- 1982 to 20% in 1983-1985. In 1982, the government introduced zero-based budgeting (ZBB) in which every spending item is thoroughly examined from top to bottom. Fiscal consolidation continued up to 1986 and curbed the spending growth of the government. As a result, the fiscal balance improved remarkably, recording a surplus of 0.2% in 1987 from a deficit of -4.3% of GDP in 1981. Fiscal consolidation, together with the monetary contraction, helped inflation to drop sharply from over 20% in 1981 to under 5% in 1983. Inflation has remained in the single digits ever since. What also contributed to price stabilization was moderation in income support policy for the agricultural sector. The fourth period (1997~now) is the period of the private sector-led economy. While the Korean government adopted the stabilization and private-led growth during Period 3, the stabilization program succeeded while a private sector-led economy was not achieved. The major challenge of Period 4 is to promote and settle the private sector-led economy. The Korean government adopted policies centered on market economy principles and globalization to redress the weaknesses of the business and financial sectors. The Korean economy could come out of the financial crisis of 1997 only after the government undertook reform measures for government, business, and the financial and labor sectors, and foreign creditors agreed to the rollover of short-term loans. During the crisis management period, the Korean government upheld market principles and didn’t retreat from liberalization commitments, strengthening the private sector’s global competence. As a result, the crisis in 1997 has been often considered as a blessing in disguise. The Korean economy was able to emerge from the crisis in a totally different condition. The Korean economy became more open to the global economy, lifting the restrictions of capital flows. Corporate management became more transparent with the adoption of global standards in accounting.

070 The Korean economy is still facing many challenges. The weakest point of the Korean

Strengthening Economic Development Planning and Infrastructure Funding for Mongolia economy is the decline of both growth and equity. Economic growth is slowing down due to a decline in productivity. According to KDI (2015), the potential growth rate will fall by 1%p. every five years. The productivity gap is widening not only between the manufacturing and service industries but also between large enterprises and SMEs in the manufacturing sector. Those widening gaps are delaying overall productivity improvement.

Moreover, income inequality is widening. The Gini coefficient has risen steadily from after the crisis until the mid-2010s. Increasing inequality is in part a byproduct of globalization. As China joined the WTO in 2001, the map of world trade changed as well. In particular, low-skilled workers’ jobs disappeared quickly all over the world including Korea. Globalization in line with a knowledge-based economy led to widening disparity between skilled and unskilled labor. Increasing inequality is undesirable as well as harmful to economic growth. But the trend reversing it is not easy because it reflects in most part the structural changes in the economy.

The government’s financial health has been deteriorated. Central government debt increased from less than 10% of GDP in 1996 to almost 40% in 2016. After stabilizing before the global crisis, it resumed increasing from 2009.The rapidly aging population with low fertility will accelerate the growth in pension fund and healthcare spending.

Those changes require a new growth strategy. With the slower growth potential, the role of total factor productivity (TFP) is of greater importance as an engine of growth. All efforts should be focused on accelerating TFP growth. For this purpose, it is urgent to enhance the productivity of the service sector as well as SMEs drastically. This will help increase good quality employment opportunities and attenuate income inequality. In addition, more attention should be paid to maintaining financial stability and bettering the financial health of the government.

4.2. EDPs in Korea

In this section, after reviewing the history of EDPs in Korea, we will assesses the plans from the perspective of the integrated planning framework.4

4.2.1. History of Development Planning in Korea

The Five-Year Economic Development Plan, implemented in 1962, was the first EDP in Korea. But in the late 1950s, the Korean government already prepared a three-year plan at the request of USA. In the late 1950s, the economic situation in Korea began to deteriorate as 071

economic aid from the United States started to decline sharply with the changes in foreign Chapter policies. Until 1957, economic aid from the United States kept increasing, reaching more than the half of the budget of the Korean government. With the deterioration of the trade deficit, 01 Institutional Set-up and Governance for Integrated Development Planning the United States had to reduce the supply of grants to Korea. The amount of aid almost halved, from USD 383 million in 1957 to USD 199 million in 1961 (See Table 1-6 below).

The Korean government and political leaders came to recognize the importance of building a self-sustaining national economy. The worldwide spread of EDPs caught the attention of political leaders and government officials in Korea. However, the Korean government was not prepared to set up a development plan. Therefore, the US government invited its experts to help establish an EDP in Korea. As a result of the efforts between the US experts and Korean government officials, the first Three-Year Plan was made in 1959. However, the early EDP was a simple collection of individual projects rather than an integrated plan. When it comes to funding in the EDP, the early EDP was focused on how to use or attract foreign aid in order to implement individual projects. Even though it aimed to attain a self-sustaining economy, the early EDP didn’t provide a blueprint for stable economic growth.

4 The Seventh EDP was announced in 1992 by the Economic Planning Board. But in 1993 it was replaced by the New Economy Five- Year Plan with the change in president. The New Economy Plan was prepared in a short period of time, less than two months, and was less detailed in its contents than the previous EDPs in Korea. Korean EDPs were terminated after the 7th EDP, and because the 7th EDP was not complete, we will not include the 7th EDP in our research.

Trade Deficit (US), Economic Aid and Economic Growth in Korea (Unit: USD million)

1955 1956 1957 1958 1959 1960 1961

Trade Deficit (USA) 602 968 468 5,201 3,477 3,881 2,370

Economic Aid 236.7 326.7 382.9 321.2 222.2 245.1 199.2

Growth Rate (Korea) 4.0 0.3 8.7 7.0 5.2 2.1 3.5

Source: Han (2014).

In the midst of the regime changes, a growth-oriented leadership appeared in 1961 following a military coup. The First Five-Year EDP was announced in 1962 at the initiative of the Economic Planning Board (hereafter EPB). The EPB was established in 1961 to formulate EDPs, oversee the budget allocation of the Korean government, and attract foreign capital (Han 2014).

As the First Five-Year EDP demonstrated, the government at that time placed a higher priority on economic development in order to overcome poverty. The First Five-Year 072 EDP was revised in 1964 in response to the widening gap between targets and actual Strengthening Economic Development Planning and Infrastructure Funding for Mongolia achievements, because the first EDP was made with great ambition but very rudimentary skills. It was, however, considered a successful first step for establishing EDP in Korea. By participating in the making the EDP, the Korean government officials came to understand the complexity of the national economy for the first time and gain experience formulating and implementing an EDP. In particular, according to Jones and SaKong (1980), the most important lesson learned from the first EDP in Korea was to build the self-confidence of government officials in handling the national economy as most of the planned targets had been over-achieved so that government officials could increase their commitment to economic development.

4.2.2. Evolution of Development Planning

After the First Five-Year EDP, the Korean government established the Second Five-Year EDP with a more advanced methodology and processes. It took nearly two years to prepare the Second EDP and used a reasonably accurate but rudimentary Input-Output Table and more sophisticated forecasting models. The Second Plan was a medium-term EDP based on 15-Year projections (1967-1981). The EPB drafted every detail of the general guidelines and also led seven working groups to prepare sectoral plans.

The Third Five-Year EDP was formulated by relying on a more decentralized processes. The number of working groups participating in the EDP doubled, and line ministries and agencies increased their participation in making sectoral plans. In order to ensure consistency, the EPB served as a secretary for all the working committees. The private sector with increased participation was given a more important role, because the Korean government recognized the growing complexity of the national economy and depended more on price incentives than on direct resource allocations. It also defined its role as a catalyst instead of being a key player on par with other players.

The table below demonstrates the comparisons of the targeted goals and actual achievements from the First to the Sixth EDPs in Korea. The actual GDP growths and export growth always exceeded the targeted goals except during the Fourth EDP, which was derailed by the regime change after the assassination of President Park in 1979 and the subsequent deep recession of 1980.

Comparison of Targeted Goals and Actual Achievements (Unit: %) 1st 2nd 3rd 4th 5th 6th Five-Year Plan (1962-66) (1967-71) (1972-76) (1977-81) (1982-86) (1987-91) T A T A T A T A T A T A 073

Annual GDP Growth 7.1 7.8 7.0 9.6 8.6 9.2 9.2 5.8 7.6 9.8 7.3 10.0 Chapter

Unemployment Rate 8.5 7.6 6.1 5.0 4.2 4.1 4.0 4.1 4.2 4.0 3.7 3.6 01 Institutional Set-up and Governance for Integrated Development Planning GNP Deflator - 19.7 - 14.9 - 21.4 8.8 20.0 10.8 4.6 3.5 6.3

Export Growth 28.0 38.6 17.1 33.8 22.7 32.7 16.0 11.1 11.4 10.5 10.0 16.4

Note: 1) T=targeted goals, 2) A=achievements. Source: Kang et al. (2008).

Assessment of Korea’s Development Plan

1st 2nd 3rd 4th 5th 6th

1. Strengthening Institutions and Governance System

1-1. Establishing a national vision and strategy ⋏ ⋏ ⋏ ⋏ ⋏ ⋏

1-2. Enhancing‌ coherence and coordination across ministries, civil society, ⋏ ⋏ ⋏ ⋏ and the private sector

1-3. Greater political leadership and will ⋏ ⋏ ⋏ ⋏ ⋏ ⋏

1-4. Establishing planning institutions with a legal mandate ⋏ ⋏ ⋏ ⋏ ⋏ ⋏

2. Evidence-based, Empirically Backed Policy Options

2-1. Creating reliable and complete data ⋏ ⋏ ⋏ ⋏ ⋏

2-2. Better information sharing with agencies, sectors, and civil society ⋏ ⋏ ⋏ ⋏ ⋏ ⋏

2-3. Promoting participatory approaches for evidence-based policy making ⋏ ⋏ ⋏ ⋏ ⋏

2-4. Building‌ capacity across government and specialized agencies using a ⋏ broad range of tools

2-5. Using forecasting models and statistics to formulate specific targets ⋏ ⋏ ⋏ ⋏ ⋏ 074 3. Development of Budgeting and Financial Systems Strengthening Economic Development Planning and Infrastructure Funding for Mongolia

3-1. Connecting the development plan with the budget ⋏ ⋏ ⋏ ⋏ ⋏ ⋏

3-2. Effective financing mechanism to meet the costs ⋏ ⋏ ⋏ ⋏ ⋏

3-3. Creating incentives for the private sector ⋏ ⋏ ⋏ ⋏

4. Support for Monitoring and Evaluation

4-1. Establishing a tailored evaluation system ⋏ ⋏ ⋏ ⋏ ⋏ ⋏

4-2. Coordinating with line ministries ⋏ ⋏ ⋏ ⋏ ⋏ ⋏

4-3. Establishing an iterative feedback process ⋏ ⋏ ⋏ ⋏ ⋏

5. Capacity Development

5-1. ‌Greater‌ comprehension on the necessity of plans, planning, coordinating, ⋏ ⋏ ⋏ ⋏ ⋏ ⋏ and appraisals

5-2. Greater‌ support to subnational government agencies and increased ⋏ ⋏ ⋏ ⋏ coordination with them

5-3. Greater awareness of the benefits and opportunities for private sector ⋏ ⋏ ⋏ ⋏

5-4. Greater‌ awareness of the right to participate and build capacity in civil ⋏ ⋏ society

Source: Author’s own. 5. Policy Recommendations

With the dismantlement of the Soviet Union, the Mongolian government sought a regime change from a centrally planned economy to a market-based economy in the early 1990s. Accordingly, Soviet-style EDPs disappeared and had to be replaced by a new and sustainable form of EDP. Many developing countries already acknowledged EDPs as an efficient vehicle to establish mid and long-term strategies for Sustainable Development Goals. The integrated framework suggested in this chapter could help formulate and implement EDPs in a more systematic and effective way.

In order to examine how Mongolian policymakers perceived EDPs from the perspective of an integrated framework, a survey was conducted for the Mongolian government officials.5 Since the Ministry of Finance plays a crucial role for formulating EDP, the survey was confined to public officials from the Ministry of Finance. We had 43 staff members who participated in the survey. Among the 43 staff members, five respondents were directors of a department or heads of a division, 15 respondents were senior specialists and 23 075 respondents were specialists. In the following section, some policy recommendations are Chapter proposed, taking into consideration the EDP experiences of Mongolia and Korea as well as

the survey results. 01 Institutional Set-up and Governance for Integrated Development Planning

5.1. The Establishment of an Integrated Framework for EDPs

To achieve sustainable development, an integrated approach needs to be mainstreamed into each stage of the national planning cycle. Because the Sustainable Development Goals (SDGs) have the potential to promote integration, coordination, and coherence across the planning cycle, the integrated nature of the SDGs also has the potential to facilitate cross- sector dialogue and policy integration and coherence across sectors. That’s the reason the UNDP (2016) suggested an Integrated Planning Framework for Sustainable Development based on the five key areas where most bottlenecks are found in establishing and executing development plans: 1) institutions and governance; 2) evidence-based and empirically backed policy options; 3) development of budgeting and financial system ; 4) and monitoring and evaluation (M&E); 5) capacity development.

Taking into consideration the increasing importance of policy coherence and multi- sectoral coordination, the UNDP (2016) requested that developing countries, when establishing an EDP, make further efforts in the following areas: achieving real policy

5 For more detailed information about survey, see the Appendix. coherence and implementing “whole-of-government” approaches; addressing the low capacity of many national statistical institutions to meet new challenges; improving the institutional capacity of local governments; promoting greater coordination between the different spheres of public administration; accelerating the integration of the SDGs into the policies and programs of all relevant line ministries; and inculcating a “whole-of-society” approach so that the SDGs become a truly national endeavor (UNDP 2016).

As witnessed in Questionnaire, Mongolian EDPs have not fully covered the five core areas except under the centrally planned economy. According to the survey result, the majority of respondents agree that the five core areas of the integrated framework are perceived to be important for EDPs. Despite the importance, most of the respondents answered that the performance of each area was not satisfactory, only 17 out 43 respondents answered they were satisfied with the performance.

In addition to the core areas, we asked several questions about the planning cycle in Mongolia. The majority of the respondents agreed that the four stages of the planning cycle

076 (visioning, integrated assessment and policy design, implementation, and M&E) are very

Strengthening Economic Development Planning and Infrastructure Funding for Mongolia important, however less than half of the respondents marked the performance of each stage as satisfied. Among the four stages, the satisfaction level was the highest for visioning with 19 respondents satisfied and 7 dissatisfied, while M&E recorded the lowest with 13 respondents satisfied and 11 dissatisfied. The survey result also confirmed the importance of the integrated framework to enhance the effectiveness of the policy coordination of the line ministries. Thus, our first recommendation is to adopt the integrated framework when establishing EDPs in Mongolia.

5.2. Political Leadership and Institutional Set-Up

The key to the success of Korean EDPs lies in the ability to get the plans and strategies put into practice. When preparing the First Five-Year EDP, the Korean government established the Economic Planning Board (EPB) in 1961 to support economic development. The creation of a capable institution like the Economic Planning Board (EPB) in 1961 with strong support from the president might be one of the most important success factor of EDPs in Korea. The primary mission of the EPB was to manage the pressing economic development goals of the new military-turned-civilian government under Park Chung Hee, by way of translating the government’s modernization drive into a series of five-year EDPs and coordinate implementation. The creation of the EPB not only symbolized a strong commitment to economic growth by the new regime, but provided a key institutional set-up to ensure the effective implementation of EDPs. The Minister of the EPB, with a higher hierarchical order as the DPM and enjoying a rank above the other ministers of the economic ministries, commanded a formal authority to coordinate the final process of economic policymaking for the effective implementation of the EDPs. Prior to the Park regime, the previous governments had attempted to modernize and develop the nation through multi-year EDPs during the 50s and early 60s, although they failed to implement them successfully because of the lack of relevant

institutional foundations and political leadership. Thus, the EPB in Korea proved to be the turning point in the history of the nation’s economic development and modernization under the strong commitment of the political leadership.

To nurture the political leadership oriented toward economic development and modernization, the top leaders of the nation should understand the current situation and the state of the economy including its exports, economic trends, and the international markets. The top leaders’ participation and concerns, in turn, help the mass media and the public know about matters such as the economy and the development goals of the EDPs.

077

In order for the Mongolian government to successfully meet the challenges of the Chapter nation’s EDP, it is crucial to establish and empower a pilot government ministry like the EPB in Korea and ensure that the ministry has sufficient power, strong authority, and enough 01 Institutional Set-up and Governance for Integrated Development Planning human and budgetary resources to play a pivotal role in designing long-term strategies and plans, coordinating across line ministries, following up on implementation, and evaluating the resulting performances. Mongolian experts and civil servants agree that the Mongolian government has been well equipped with a legal framework but it has yet to achieve the anticipated results. For this purpose, our second recommendation is to establish the relevant institutions under the top political leadership

5.3. Evidence-Based, Empirically Backed Policy Options

The Korean government realized the importance of reliable data and statistics in the planning process from the beginning. The Statistics Act authorized the EPB to handle main government statistics, establishing the National Statistics Committee under the Minister of the EPB. In order to assist evidence-based and empirically backed policy making, the Second Five-Year EDP proposed the establishment of a research institute. Its mission was to improve expertise in economic analysis, the international economy, and forecasting, and also to help support coordination among the EPB, line ministries, and stakeholders. The Korea Development Institute was eventually established in 1971. KDI, under the sponsorship of the EPB, played a crucial role in building expertise in EDPs since the Third EDP. In contrast to Korea, the Mongolian National Statistics Office (NSO) is located under the Parliament. The NSO under the sponsorship of the Parliament may have some advantages when it comes to the value-free quality of statistics or political bias. Since, in most circumstances, the most important demander of the NSO might be the Mongolian government, we recommend the change in the status of the NSO for the purpose of making more evidence-based and empirically backed policy options.

Also at least in the medium term, the Mongolian government may also want to consider setting up a national economic policy think tank like KDI in Korea which could help prepare middle and long-term EDPs, analyze strategic and policy options, monitor and evaluate the process of policy reforms and their implementation, and enhance intellectually-grounded public awareness on the economic challenges. Since the Mongolian government does not currently have a national policy think tank, we recommend the establishment of a national policy think tank to back up evidence-based policy making.

5.4. Development of Budgeting and Financial Systems 078

Strengthening Economic Development Planning and Infrastructure Funding for Mongolia For the purpose of enhancing the coherence of policy coordination across line ministries and the implementation of the EDPs, three institutional features could be considered essential from Korea’s experiences. The first is a strong pilot institution in charge of the EDP such as the EPB in Korea. The second is the political leadership empowering the minister of the pilot ministry with a higher position in order to take full responsibility of the cross- ministry coordination. The third is to give this institution the power over the formation and allocation of the budget. In order to ensure the effective implementation of the EDPs, it is important to make line ministries participate actively in the preparation of sectoral projects or programs. In the end, however, it is the pilot ministry who should have the authority to resolve conflicts over the sectoral plans of line ministries and determine the respective share of the government budget with a higher level of policy consistency and in accordance with the strategic goals. Since this topic is the theme of Chapter 3 of this report, more detailed policy suggestions will be discussed in Chapter 3.

5.5. Support for Monitoring and Evaluation (M&E)

From the First Five-Year EDP, M&E had been introduced in Korea. Until the Fourth EDP, each line ministry and agency had to submit a self-assessment report to the Office of Planning Coordination (OPC) under the Prime Minister’s Office. Each line ministry had the primary responsibility of monitoring and evaluating the quarterly status of the implementation on projects and programs and report to the OPC, while the OPC conducted an overall evaluation of the individual reports. In fact, the M&E did not work effectively because it lacked a feedback system in relation to the budgetary process. Since the OPC did not have any control over the budget process, it could not enforce the policy expectations of the line ministry in the follow-up process. This situation is very similar to the current situation of M&E in Mongolia.

The survey results also confirmed the concerns of the respondents regarding M&E in the Mongolian EDP. M&E was ranked as lowest level of satisfaction not only among the five core areas with 13 dissatisfied but also among the four stages of the planning cycle with 11 dissatisfied out of 43 respondents.

The Korean experience shows that when M&E goes along with the budgetary process, the effectiveness of M&E could be ameliorated. For the purpose of enhancing the effectiveness of M&E, we recommend strengthening the feedback system in the follow-up process as well as improving the capacity of the staff members of line ministries who assess the projects and programs of the ministry.

079

5.6. Capacity Development Chapter

Developmental state proponents like Johnson and Amsden have argued that autonomous 01 Institutional Set-up and Governance for Integrated Development Planning and rational bureaucrats dedicated to development are what led to the phenomenal economic success in Korea, although the effectiveness of State intervention in the economy had declined over time. At the early stage of the development process in Korea, the State outperformed the market and civil society in the absence of mature market and civil society. In particular, the State is considered to have made a significant contribution to creating a market-friendly and participation-oriented society. It was possible because of the excellent capacity of public officials to lead the nation to the modernized one. Indeed, Korean experience in its early development process demonstrates that a capable bureaucracy is a necessary condition to achieve State-led development of any kind.

In order to develop the nation, it might be crucial for the pilot ministry to recruit highly competent and dedicated staff and keep enhancing their capacity development once capable staff members are recruited. For that purpose, Mongolia might adopt a two-track recruitment system. In particular, the role of the pilot ministry being the most important, the pilot ministry should be able to select the most competent elite cadre of officials. To be sure, the Korean top leaders made sure that the EPB drafted the best and the brightest, thus viewed inside and outside government circles as the most rational, objective, or public spirited among all bureaucrats (Han 2014). In addition, officials of line ministries as well as the private sector and civils society also should be given regular opportunities to empower themselves to participate actively in the process of developing EDPs.

5.7. Conclusion

Since policy resources are more limited and scarce in developing countries than in developed nations, economic policy coordination is more difficult but important in developing countries. Ever since the Mongolian government adopted a market- oriented economy, EDPs have played an important role in promoting economic activities, modernizing the economic structure, and stabilizing macroeconomic fluctuations. However, it is vital to coordinate policy measures in order to avoid inconsistencies. EDPs were employed for this purpose and have also played a significant role in stimulating private sector activities by revealing mid and long-term economic orientations and forecasts. In this sense, economic policy coordination goals for employing EDPs are two-fold; one is to avoid the negative effects of inconsistency among policy measures of line ministries and the other is to promote positive effects to enhance private sector activities by indicating the direction

080 of government economic policies. Since EDPs in the market economy work as indicative and

Strengthening Economic Development Planning and Infrastructure Funding for Mongolia indicate targeted goals and guidelines for the private sector and civil society, the Mongolian EDP should follow suit.

In this chapter, the integrated framework was utilized to analyze the performances of EDP in both Mongolia and Korea. Interestingly, Mongolia scored relatively well in several core areas, and particularly in institution and governance. However, in the second core area, i.e. evidence-based policy options showed 4 out of 5 conditions were not met and recording the poorest performance among the core areas. Korea’s Five-Year EDP is a case in point. The EDP in Korea started out as an EDP of typical resource allocation but it changed into an indicative one to accommodate the changing economic conditions, specially allowing more room for the market mechanism. This change enabled it to lay the foundation for Korea’s economic success. This implies that an EDP can be an effective tool for jump starting an underperforming economy only when the development strategy itself is geared to promoting market incentives, price mechanisms, and private sector initiatives.

Another important characteristic of successful a EDP is governance, because the integrated approach requires a well-functioning governance to derive the consensus on priorities among diverse socio-economic goals and to ensure policy coherence across the ministries. Governance is often represented as a combination of the three categories such as State, market, and civil society. When the governance of a nation is working properly, an EDP can also achieve its expected outcomes. To examine whether a given category of governance is working properly or not, we asked several questions about governance. According to survey results, most of respondents admitted that the State is the most important among the three categories with 37 respondents expressing that it was very important. Regarding the performance on the three categories, 16 respondents answered that they were dissatisfied with the performance of the civil society, while only 12 respondents expressed satisfaction. The survey results confirmed the assessment of the local consultants. The Mongolian EDP needs improvement in narrowing the discrepancy between legislation and reality, giving more expanded incentives to induce the participation of the civil society.

081 Chapter 01 Institutional Set-up and Governance for Integrated Development Planning References

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Cohen, S. (1977). “Modern Capitalist Planning: the French Model”, University of California Press, California, p.29.

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Hays, J. (Ed.). (2016, April). Economy of Mongolia during the Soviet Era. Retrieved December 01, 2018, from http://factsanddetails.com/central-asia/Mongolia/sub8_2f/entry-4607.html.

082 International Bank for Reconstruction and Development (1957), “The Economy of Italy”, Strengthening Economic Development Planning and Infrastructure Funding for Mongolia http://documents.worldbank.org/curated/en/848471468044126318/pdf/multi0page.pdf.

Jones, P. L. and Il, S. (1980). Government, Business, and Entrepreneurship in Economic Devel- opment: The Case of Korea, Harvard Univ. Press, Cambridge, MA.

Kang, G. (2000). “Five Year Economic Development Plan: Evaluating its purpose and Imple- mentation”, Seoul National University Press. [in Korean]

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Kuznets, P. (1990). “Indicative Planning in Korea”, Journal of Comparative Economics, Vol- ume 14, Issue 4, pp. 657-676.

Ministry of Finance and Association of Accounting and financing resources. (2007). Mongo- lian financial agencies. [in Mongolian]

Ministry of Finance. (2015). Law on development policy planning: Policy research II. Ulaan- baatar.

Narantungalag, O. (2015). Capacity and structure of Development policy planning institu- tions (Tech.). Ulaanbaatar: The Ministry of Finance.

National Development and Reform Commission(NRDC), http://en.ndrc.gov.cn/mfndrc/. Naughton, B. (1995). Growing Out of the Plan: Chinese Economic Reform , 1978-1993. New York: Cambridge University Press.

Park et al. (2015), Establishment of Governance Indicator and its Applications, Korea Devel- opment Institute. [in Korean]

Park, M., Kang M., Song,D., Noh, I., and Park, J. (2018). Economic Development Plan, in Shar- ing Knowledge Sharing Future, KDI.

Il, S. and Koh, Y. (ed) (2010) The Korean Economy: Six Decades of Growth and Development, KDI.

The Constitution. (1992). The Constitution of Mongolia, Retrieved form http://www.unesco. org/education/edurights/media/docs/6a6a23469e136afaa4860bf5869f6f8f659c6688.pdf.

The Government. (2004). Drafting procedure of formulating socio-economic guideline. Re- trieved from www.legalinfo.mn/law/details/2824?lawid=2824. [in Mongolian]

The Government. (2009). Establishment of Agency. Retrieved 2018, from www.legalinfo.mn. [in Mongolian] 083 Chapter

The Government. (2013). 429thresolution:Conductingpreliminaryresearchonpublicinvest- mentfor2014. Retrieved from https://www.legalinfo.mn/law/details/9638?lawid=9638. [in 01 Institutional Set-up and Governance for Integrated Development Planning Mongolian]

The Government. (2013). Financing projects. Retrieved from http://www.zasag.mn/m/med. [in Mongolian]

The Parliament of Mongolia. (2016). Mongolia Sustainable Development Vision-2030. Re- trieved from http://www.un-page.org/files/public/20160205_mongolia_sdv_2030.pdf.

The Parliament. (2010). 45th Government resolution: Socio-economic guideline for 2011. Re- trieved December, 2018, from https://www.legalinfo.mn/law/details/6165?lawid=6165. [in Mongolian]

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The Parliament. (2012). 37th Government resolution: Socio-economic guideline for 2013. Re- trieved December, 2018, from https://www.legalinfo.mn/law/details/10339. [in Mongolian]

The Parliament. (2017). Budget law 2017-Annex 3. Retrieved December, 2018, from http:// nda.gov.mn/backend/f/H4oyMYZq0L.pdf. [in Mongolian] The World Bank. (2007). National Development Strategy draft (Unofficial translation). Re- trieved 2018, from http://siteresources.worldbank.org/INTMONGOLIA/Resources/NDS_ DRAFT_ENG.pdf.

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Wikipedia. (n.d.). State Great Khural. Retrieved December, 2018, from https://en.wikipedia. org/wiki/State_Great_Khural.

084 Strengthening Economic Development Planning and Infrastructure Funding for Mongolia Appendix

Questionnaire for Introducing the Integrated Approach for Economic Development Planning in Mongolia

As a part of Knowledge Sharing Program (KSP) of Mongolia and Korea, this survey aims to serve as a reference for establishing better Economic Development Planning (EDP) in Mongolia. Regarding EDP, we have three topics. The first topic is ‘Institutional set-up and governance for integrated development planning’. The second is ‘Policy prioritization across sectors’. The third is ‘Integration of planning and budgeting strategy’. To understand the current states of EDP making and governance issues in Mongolia, a Korean research team designed some questionnaires. It will take approximately 20 minutes to respond to this questionnaire. We are deeply grateful for taking your precious time.

Respondent Personal Information 085 Chapter

Name:

Institution: 01 Institutional Set-up and Governance for Integrated Development Planning How long have you been working in the Institution? ( ) Years Position: since when Responsibilities: Contact: (Phone) (E-mail)

‌Institutional set-up and governance for integrated development planning

1. Five Core Areas of EDP

EDP is usually composed of five core areas such as 1) institutions and governance, 2) evidence-based and empirically backed policy options, 3) development of budgeting and financial systems, 4) monitoring and evaluation (M&E), and 5) capacity development. In most countries, a major challenge in EDP is in part due to the lack of appropriate institutions. A strong and accountable planning institution with a supporting governance system is a prerequisite for well-functioning planning. To establish realistic targets for the planning, evidence-based policy making should be backed up. A lack of capacity for data analysis can also hamper the quality of planning. Many developing countries face a shortage of funding required to meet the development goals. Linking planning to budgeting can be considered a most integral stage in the planning process. Most developing countries have introduced M&E systems for development policies and plans but these systems are often found ineffective. It is very important for the planning institution to be equipped with capable staff to collect and analyze data, develop policy options and make appropriate choices, implement the plans, and monitor and evaluate the results. In fact, a major constraint in EDP is often found to be deficient administrative capacity. That’s why capacity development matters.

2. Planning Cycle

The planning cycle of EDP consists of four stages: 1) the visioning; 2) policy making; 3) implementation; and 4) the monitoring and evaluation (M&E). The first stage is to make a shared view through stakeholder engagement and coordination. The second is to design the policy through integrated assessments. The third is to implement the EDP, mobilizing all the resources. The last stage is to monitor and evaluate the performance of the EDP, establishing

086 an iterative feedback process. Strengthening Economic Development Planning and Infrastructure Funding for Mongolia

3. Governance

Governance is often considered a combination of the three categories such as State bodies, markets, and civil society. The State body consists of legal, administrative, and political capacity. Markets are composed of industrial competitiveness, market regulations, and market foundations, while civil society is composed of social capital, participation, and welfare/equity. Historical studies show that before reaching the maturity of an industrial society, State bodies were the most influential and overwhelming among the three categories. At that stage neither civil society nor markets were autonomously developed. With the advent of an industrial society, markets have developed rapidly and civil society has started to be awakened. As a result the State body, which has had an overwhelming influence, handed over part of its power to the markets. The proliferation of democracy with rapid industrialization empowered citizenship. Consequently a mature civil society has emerged recently as a new category of governance. Questionnaires (and Survey Resuts) Institutional set-up and governance for integrated development planning 1. Core areas of EDP

Regarding the importance of five core areas, what do you think about the importance of each area?

Very Somewhat Somewhat Very Neutral Important Important Unimportant Unimportant

1. Institutions and Governance 34 7 2 0 0

2. Evidence-Based‌ and Empirically Backed 32 9 2 0 0 Policy Options

3. Development‌ of Budgeting and Financial 31 12 0 0 0 Systems

4. Monitoring and Evaluation (M&E) 30 11 2 0 0

5. Capacity Development 26 16 1 0 0 087 Chapter Regarding the performance of five core areas, what do you think about the performance

of each area? 01 Institutional Set-up and Governance for Integrated Development Planning

Very Somewhat Somewhat Very Neutral Satisfied Satisfied Dissatisfied Dissatisfied

6. Institutions and Governance 6 11 14 8 3

7. Evidence-Based‌ and Empirically Backed Policy 6 11 18 6 2 Options

8. Development of Budgeting and Financial Systems 7 12 15 5 4

9. Monitoring and Evaluation (M&E) 8 6 15 10 3

10. Capacity Development. 7 10 15 9 2 2. Planning cycle

Regarding the importance of four stages of planning cycle, what do you think about the importance of each stage?

Very Somewhat Somewhat Very Neutral Important Important Unimportant Unimportant

11. Visioning: Make a Shared Vision 27 15 1 0 0

12. Integrated Assessment and Policy Design 31 11 1 0 0

13. Implementation 30 12 1 0 0

14. Monitoring and Evaluation (M&E) 26 16 1 0 0

Regarding the performance of four stages of planning cycle, what do you think about the performance of each stage?

Very Somewhat Somewhat Very Neutral Satisfied Satisfied Dissatisfied Dissatisfied 088 15. Visioning: Make a Shared Vision 6 13 17 6 1 Strengthening Economic Development Planning and Infrastructure Funding for Mongolia

16. Integrated Assessment and Policy Design 3 12 20 7 1

17. Implementation 7 12 12 9 3

18. Monitoring and Evaluation (M&E) 7 6 19 7 4

3. Governance

Regarding the importance of the three categories of the governance, what do you think about the importance of each stage?

Very Somewhat Somewhat Very Neutral Important Important Unimportant Unimportant

19. State‌ Body: Legal, Administrative, and Political 37 5 1 0 0 Capacity

20. Market:‌ Industrial Competitiveness, Market 23 19 1 0 0 Regulation, and Market Foundation

21. Civil‌ Society: Social Capital, Participation, and 20 19 4 0 0 Welfare/Equity Regarding the performance of the three categories of the governance, what do you think about the performance of each category?

Very Somewhat Somewhat Neutral Very Dissatisfied Satisfied Satisfied Dissatisfied

22. State‌ Bodies: Legal, Administrative, and 5 14 15 7 2 Political Capacity

23. Market:‌ Industrial Competitiveness, Market 4 14 16 7 2 Regulation, and Market Foundation

24. Civil‌ Society: Social Capital, Participation, 5 7 15 13 3 and Welfare/Equity

089 Chapter 01 Institutional Set-up and Governance for Integrated Development Planning 02 Chapter

Policy Prioritization across Sectors

090 Sung Ho Choi (Kyonggi University)

Strengthening Economic Development Planning and Infrastructure Funding for Mongolia Erdenebayar Davaasambuu (National Development Agency) Sarantuya Munkhtur (National Development Agency)

1. Introduction: The Objective of the Study 2. EDPs and Sectoral Policies in Mongolia 3. Sectoral Policy Prioritization in Korea and Newly Industrialized Countries 4. Suggestions for Prioritization Methodology 5. Conclusion: Implications from Korean Experiences and Policy Suggestions

Keywords Sectoral policies, Industrial Policy, Prioritization across Sectors, Policy Prioritization Criteria, Economic Development Plan in Mongolia Policy Prioritization across Sectors

Sung Ho Choi (Kyonggi University) Erdenebayar Davaasambuu (National Development Agency) Sarantuya Munkhtur (National Development Agency)

Summary

This is one project within the 2018/19 KSP with Mongolia, which has been conducted under the title “Policy Prioritization Across Sectors.” The main purpose of this study is to provide the Mongolian government with the rationale and methodology for prioritization among sectors to establish and enforce long-term economic development strategies 091 Chapter systematically and effectively. 02

The Mongolian government's 2015 National Development Strategy, Sustainable Policy Prioritization across Sectors Development Agenda 2030, and Sustainable Development Vision 2030 are necessary for systematic and effective planning and execution of the economic development of Mongolia. The effectiveness of these long-term economic development strategies rests on consistent policy prioritization across sectors and projects. Since the Mongolian central planning system was abolished in 1990, long-term economic development strategies and plans under the system of a market economy have been assessed as ineffective. One of the important reasons for the ineffectiveness was the rapid change of political policy priorities after each election taking place every four years.

This unstable sectoral policy priority is a challenge the Mongolian government must address. This study examines theories, institutions, and procedures on establishing long- term economic development plans and prioritizing among sectoral policies. To this end, the focus is on the experiences and achievements of Korea's economic development. Thus, the establishment and enforcement of Korea’s industrial policy and science and technology policy is reviewed. The criteria for prioritizing sectoral policies comprising technology, resource, economic, social and environmental, and regional aspects are derived from this study. We suggest a methodology for prioritizing sectoral policies between industries and regions. Assessing priorities by comparing comprehensive sectoral policies, effective communication, strategic judgment, and qualitative evaluation are more important than a detailed quantitative cost-benefits analysis. This approach assumes that if comprehensive policies are embodied in individual projects, then each project must undergo a feasibility analysis. It is also difficult to perform a complete cost-benefit analysis with the constraints of time, resources, and data. Therefore, for prioritizing comprehensive sectoral policies, theoretical models such as a growth identification and facilitation framework, and product space theory, various indexing methods, and strategy-oriented approaches such as AHP (Analytic Hierarchy Process), SWOT (Strengths, Weaknesses, Opportunities, and Threats), PEST (Political, Economic, Socio-cultural, Technological), or any combination of these methods can be used. As one of the suitable analysis methods considering the scale and industrial structure of the Mongolian economy, this study proposes a simple multi-criteria decision-making method. In particular, the Analytic Hierarchy Process (AHP) is adopted as an analytical model and as a concrete method for establishing a policy prioritization framework, deriving the relative importance among elements of the criteria, and the 092 application of the suggested criteria to the actual policy cases. For the AHP analysis, focus Strengthening Economic Development Planning and Infrastructure Funding for Mongolia group interviews and surveys are conducted to gather opinions of experts and stakeholders, and to get feedback on the content of the questionnaire and interpretation of the analysis results. As a pilot analysis, the suggested methodology is applied to the Mongolian government's recently established sectoral policy cases. Among the 17 sectoral policies coordinated by the National Development Agency (NDA), agriculture, tourism, mining and energy, light industry, and heavy and chemical industry policies were selected to be analyzed. Mongolian experts’ opinions on the pilot analysis indicated that the economic aspect was the most important among the five major items, and the regional aspect was the next most important item. On the other hand, the technology aspect was assessed as the least important. This priority analysis can be reproduced in various ways according to the composition of participating experts in terms of professional field, affiliation institution, hierarchical rank, and the like.

This study proposes a policy formulation and enforcement system of Mongolia equipped with the best practices of the policy prioritization methodology. These policy recommenda- tions include establishing the roles and authority of each institution and setting up consulta- tion and collaboration procedures among institutions. The recommended package includes the improvement of institutional conditions and data availability for the application of methodologies such as theoretical models, analytical techniques, and prioritization criteria. In addition, it is linked up with suggestions of related regulations and the system mainte- nance necessary for such policy functions. 1. Introduction: The Objective of the Study

Prioritizations across sectoral policies are crucial for successful industrialization and economic development. Korean industrial policy with direct or indirect prioritization across sectors as its essential ingredients could be a benchmark case for Mongolia.

1.1. Background

The effectiveness of long-term economic development strategies depends on consistent policy prioritization across sectors as well as projects (UNDP, 2016). It is important to prioritize policies for systematic and effective planning and the enforcement of the Mongolian government's 2015 National Development Strategy, Sustainable Development Agenda 2030, and Sustainable Development Vision 2030 (State Great Hural of Mongolia, 2016a; State Great Hural of Mongolia, 2016b).

A sectoral policy in this study refers mainly to an industrial policy that supports the growth and enhancement of specific industries. Most sectoral policies also relate to regions 093 Chapter in which relevant industries are located. However, they do not necessarily entail selection of specific companies, so called, “picking winners.” 02 Policy Prioritization across Sectors

Industrial policy or sectoral policy has long been a controversial issue (Di Tommaso et al., 2017; Chang, 2011). Since economic theory traditionally emphasizes the role of markets leading industrial development and restructuring, mainstream economists who believe in market function and development economists who advocate balanced growth for economic development, oppose policies that favor specific industries or regions (Balassa, 1988; World Bank, 1993). However, economists who argue for unbalanced growth theory, and scholars who focus on market failure, dynamic comparative advantage, and the protection of infant industries are in favor of a policy to selectively support certain sectors (Chang et al., 1998; Mah, 2007; Westphal, 1990). Most developing countries are implementing policies that prioritize specific sectors because of resource, financial, and capacity constraints. In developed countries, more tacit or subtle industrial policies have been implemented. For example, the United States has used tacit industrial policies that focus on the correction of market failures in fields of basic science, infrastructure, and education by leveraging the expertise of the private sector (Felipe & Rhee, 2015). Since the early 1980s, the importance of large-scale, vertically integrated enterprises has decreased, and the emphasis moved to collaborative networking among industry, academia, research, and the government. Industrial policies have covered setting standards, a roadmap for technology development, authentication and signaling, and networking support. Even in developed countries, industrial policy has been recently highlighted since the global financial crisis was brought on by the expansion of nonproductive, zero-sum, and rent-seeking sectors. As President Barack Obama called for “a strategic decision on strategic industries” (The Economist, 2010), many politicians, scholars, and experts in Europe and the United States are supporting industrial policies aiming at specific industries for a wide range of economic and social reasons (Mazzucato, 2015; Stiglitz et al., 2013).

Prioritization among sectoral policies presupposes a consensus on the necessity of industrial policy. Developing countries need sectoral policies, i.e, industrial policies, for economic development, therefore, a policy framework for prioritization is crucial to them. The criteria of judgment for prioritization should be established and procedures leading to prioritization should be instituted.

This study aims to share with the National Development Agency (NDA) of Mongolia, through KSP, the methodology used by the Korean government to prioritize sectoral policies

094 incorporating major industries. Strengthening Economic Development Planning and Infrastructure Funding for Mongolia 1.2. Research Purpose

The objective of this study is to support systematic and effective planning and the implementation of mid- and long-term economic development strategies by providing the rationale and methodology for prioritization among sectors, eliminating conflicts, and securing harmonization and synergy among sectoral policies. The UNDP (2016) presented five components of an integrated framework for economic development planning: institution and governance, empirically supported policy alternatives based on evidence, the development of budgets and financial systems, monitoring and evaluation, and capacity building. Regarding prioritization of sectoral policies, emphasis should be placed on establishing policy alternatives as well as monitoring and evaluation, which are empirically supported on an evidence basis, where complementarily capacity development is required. This study mainly focuses on the methodology of criteria for policy prioritization. The procedural aspects of policy prioritization cannot be overemphasized, but here they will be addressed to the extent necessary to make full use of the criteria for policy prioritization.1

1 In addition to policy prioritization, the analysis of the procedural aspects of various mid- to long-term development policies and the presentation of alternatives will be addressed by Park et al. (2019), which is a parallel study of KSP 2019. 1.3. Challenges‌ of Economic Development and Policy Prioritization in Mongolia

Since the abolition of Mongolia's central planning system in 1990, long-term strategies and plans for economic development under the system of a market economy have been assessed as mostly ineffective.2 One of the important reasons is that political priorities for various policies changed after each election every four years. The instability of sectoral policy priorities was one of the challenges for the Mongolian government to successfully respond to for the achievement of the economic development objectives. It should also be pointed out that the criteria for determining policy priorities are unclear, and procedures for consultation among government departments, between central and local governments, and between the public and the private sector have not been established. The lack of public think tanks that support policy analysis for prioritization is also an important limitation. Recently the Law on Development Policy Planning was enacted in 2015. Stabilizing the standards and procedures under this Act will be an important future task for development policy planning and sectoral policy prioritization. 095

According to the World Competitiveness Survey of the World Economic Forum, Mongolia Chapter ranked 102nd out of 141 countries in 2017 with an overall score of 3.3 points (total score of 7) 02 (Schwab, 2017). Considering, 4.4 points for environment, 5.7 points for safety, 4.5 points for Policy Prioritization across Sectors human resources, 4.0 points for telecommunications, 1.9 points for country transparency, 2.2 points for air transportation, and 2.1 points for infrastructure, the assessment of 4.0 points for sector prioritization is more or less close to the average level.

Confirming further motivation of this study, a basic questionnaire survey was conducted on experts in the Mongolian Ministry of Finance (MOF).3 The survey asked about the necessity of prioritization among sectoral policies, the criteria on the judgment for prioritization, and the procedures and institutional conditions leading to appropriate prioritization. MOF experts strongly agreed on the importance of sectoral policies, and criteria for prioritization among sectoral policies, and the long-term persistence of priorities, as shown in

. On average, among the four questions, 93% of the respondents answered positively about the necessity (very necessary, necessary); contrastingly, on the actual performance, only 27% answered positively (very satisfied, satisfied). The highest evaluation was given to the prioritization among sectoral policies regarding the importance, but on the actual performance, the highest evaluation was made for the establishment of the

2 The issue of Mongolian policy prioritization is based on interviews with former senior officials such as the National Assembly Mem- ber and Vice Minister of Industry during the Ulaanbaatar visit in January 2019. 3 The survey covered 43 experts from the Mongolian Ministry of Finance. For more information on this survey, see Park (2019). sectoral policy. In other words, the Mongolian government has established and implemented quite a few sectoral policies, but the priority criteria had not been well established and the determined policy priorities did not remain stable for a long period of time. The survey results show the motivation of the study. Most of all, 95% of respondents answered positively to the need for appropriate criteria to prioritize sectoral policies, but only 26% responded positively to the actual performance of their application.

Opinions on Prioritization of Sectoral Policies (Unit: %)

Importance Performance Statement Positive Negative Positive Negative

Sectoral policies that support specific industries or 90.7% 0.0% 34.9% 18.6% regions are needed.

Prioritization among sectoral policies is needed. 95.3% 0.0% 25.6% 30.2%

Determined priorities among sectoral policies should be sustained over a long period of time 93.0% 0.0% 20.9% 41.9% (e.g., 10 years). 096 Appropriate criteria for prioritizing sectoral policies Strengthening Economic Development Planning and Infrastructure Funding for Mongolia 95.3% 0.0% 27.9% 27.9% need to be established.

Source: Ministry of Finance.

On the other hand, there is a large gap between the importance and the actual performance regarding the procedures and institutional conditions for prioritizing the sectoral policies. More than 93% of the respondents, as noted by

, answered positively to the necessity of top decision-makers’ attention and willingness on prioritization, clear and appropriate laws and regulations on the authority and role of government ministries and public agencies, data foundations for establishing and evaluating sectoral policies, and expertise for establishing and evaluating sectoral policies. Opinions on the Necessity of Institutions for Policy Prioritization (Unit: %) Positive Statement response

The top decision-makers’ attention and willingness on prioritizing sectoral policies is important. 95.3

The data foundation required for establishing and evaluating sectoral policies is important. 95.3

It is important to have clear and appropriate rules and regulations on the authority and role of each ministry or public institutions in establishing sectoral policies and prioritizing sectoral 95.3 policies.

It is important to secure adequate professional manpower necessary for establishing and 93.0 evaluating sectoral policies.

Procedures leading to prioritization among sectoral policies are important. 90.2

It is important to have enough consultations between the government and the private sector including businesses and independent experts in the process leading to the prioritization of sector 88.4 policies.

It is important to have enough consultations among government agencies in the process leading to 88.4 the prioritization of sectoral policies.

Source: Ministry of Finance. 097

However, with regard to actual achievements, indicated by

, except for Chapter the fact that 50% of the respondents agreed that the process of prioritizing the sectoral 02

policies was properly established by the 2015 Development Policy Planning Act, the positive Policy Prioritization across Sectors responses was relatively low. Especially the positive response on keeping sufficient experts at the NDA, the Prime Minister's Office, and local governments, and on the willingness and commitment of top policymakers were less than 30%.

Opinions on the Performance of Institutions for Policy Prioritization (Unit: %)

Statement Positive Response

Procedures leading to the determination of sectoral policy priorities have been properly 50.0% established by the legislation of the 2015 Development Policy Planning Act.

The data foundation required for establishing and evaluating sectoral policies was properly 39.5% established.

The authority and role of each ministry or public institutions in establishing sectoral policies 37.2% and prioritizing sectoral policies are clearly and properly defined and adhered to.

Each line ministry in charge of relevant industries is appropriately equipped with the necessary 32.6% experts to establish the sectoral policies.

Procedures leading to the determination of sectoral policy priorities established by the 30.2% legislation of the 2015 Development Policy Planning Act have been properly implemented.

Sectoral policies are being implemented without interruption in accordance with the 29.3% determined priorities based on the top decision-makers’ attention and willingness.

The National Development Agency and the Office of the Prime Minister are appropriately 25.6% equipped with the necessary experts for the evaluation of the sectoral policies.

Local governments are appropriately equipped with the necessary experts to draft and propose 25.6% 098 sectoral policies. Strengthening Economic Development Planning and Infrastructure Funding for Mongolia Source: Ministry of Finance.

2. EDPs and Sectoral Policies in Mongolia

The portion of sectoral policies regarding specific industries and technologies will be sorted out from EDPs and assessed in terms of appropriateness of policy prioritization.

2.1. Recent‌ Development Plans and Their Sectoral Policy Components4

2.1.1. The Sustainable Development Vision 2030

The Sustainable Development Vision 2030 [SDV 2030] was approved by the State Great Hural on February 5, 2016 (State Great Hural of Mongolia, 2016b). It aligns with 16 of the 17 Sustainable Development Goals, since Mongolia, being a landlocked country, does not have explicit targets related to Goal 14 (“Conserve and sustainably use the oceans, seas and marine resources”). The Vision for Mongolia set out in the strategy is as follows:

4 Sections 2.1 and 2.2 summarize the manuscript written by Mongolian experts Erdenebayar Davaasambuu and Sarantuya Muunkht- tur based on the Mongolian government's policy reports and official statistics. By 2030, Mongolia aspires to be amongst leading middle-income countries based on per capita income. It hopes to be a multi-sector stable economy, and a society dominated by middle and upper-middle income classes, which would preserve ecological balance, and have stable and democratic governance.

The Sustainable Development Vision 2030 has several targets underpinning it.

The Sustainable Development Vision 2030

1. Increase‌ its GNI per capita to USD 17,500 and become an upper-middle-income country based on its income per capita. 2. Ensure average annual economic growth of not less than 6.6% in 2016-2030. 3. End poverty in all its forms. 4. Reduce income inequality and have 80% of the population in the middle and upper-middle income classes. 5. Increase the enrollment rate in primary and vocational education to 100% and establish a lifelong learning system. 6. Improve‌ the living environment of the Mongolian people to lead a healthy and long life; increase life expectancy at birth to 78 years. 7. Be placed among the first 70 countries on the ranking of countries by the Human Development Index in the world. 8. Preserve‌ ecological balance and to be placed among the first 30 countries on the rankings of the countries by the Green Economy Index in the world. 9. Be‌ ranked among the first 40 countries by the Doing Business Index and among the first 70 countries by the Global Competitiveness Index in the world. 099

10. Build‌ professional, stable, and participative governance, free of corruption that is adept at implementing Chapter development policies at all levels. 02 Policy Prioritization across Sectors The SDV 2030 presents key indicators to be achieved by the target year of 2030, as shown at

by the long-term plan, compared with the current state in 2014.

Sustainable Development Vision 2030 Indicators

Base Measuring Target Level Indicator Level Unit (2030) (2014)

1 Average Annual Economic Growth % 7.8 6.6

2 Gross National Income Per Capita USD 4,166 17,500

3 Human Development Index Rank 90 70

4 Life Expectancy Years 69.57 78

5 Poverty Rate % 21.6 0

6 Global Competitiveness Index Rank 104 70

7 Doing Business Index Rank 56 40

8 Environmental Performance Index Rank 111 90

Share of the Population with Social Insurance Coverage in the 9 % 84.4 99 100 Total Economically Active Population Strengthening Economic Development Planning and Infrastructure Funding for Mongolia

10 Gini Coefficient of Equality Score 36.5 30

11 Infant Mortality Ratio Per 1000 Live Births Ratio 15.1 8

12 Maternal Mortality Ratio Per 100,000 Live Births Ratio 30.6 15

13 Number of Students in a Class at High School (National Average) Number 27.3 20

Area of the Land with Disease Free Status for International 14 % 0 60 Trade Certified by World Animal Health Organization

15 Area of Desertified Land % 78.2 60

16 Area of Specially Protected Land % 17.4 30

Number of Foreign Tourists Traveling 17 Million Persons 0.39 2.0 in Mongolia

18 Share of Households Using Reliable Electricity % 89 100

19 Share of the Processing Sector Exports in Total Exports % 17 50

Share of Main Fuel Products Supplied from Domestic 20 % 0 100 Production

Source: Mongolia Sustainable Development Vision 2030.

To fulfill the above targets, the government has set an important development vision comprising sustainable economic development, sustainable social development, environmental sustainability, and governance for sustainable development. Especially, SDV 2030 selected the industries listed in

as priority sectors. Targeted Industrial Sectors in the Sustainable Development Vision 2030

• The agricultural sector (specifically, enhance livestock to benefit the dairy and meat sectors plus develop grain, fruit and vegetable growing to meet domestic demand and thereby reduce imports) • The tourism sector • The industrial sector (specifically, export-oriented processing clusters including food processing and chemicals) • The mining sector • The energy and infrastructure sector (with the aim to supply all domestic needs and begin to export energy)

2.1.2. Government Action Plan 2016-2020

A more specified strategic document in line with the SDV 2030 is the Government Action Plan 2016-2020 (State Great Hural of Mongolia, 2016a).5 It is broken down into several components including special policy to overcome economic difficulties, policy to ensure sustainable economic growth, social policy measures, policy on environment and green growth, and policy on governance. Except the special policy to overcome economic difficulties, the remaining areas are all similar with SDV 2030. The action plan discusses two phases of policy measures for overcoming economic difficulties as follows: 101

“Phase I (2016-2020): Develop trade and services infrastructure, coordinate the activities Chapter of the border control organizations, and reduce the number of days for foreign trade, 02

especially exports, to 25 days, and decrease costs and expenses related to trading and related Policy Prioritization across Sectors activities”.

“Phase II (2021-2025): Simplify the system for special license issuance, digitalize and improve tax payments and state registration systems, reduce the number of days for foreign trade, especially exports, to 18 days, and decrease costs and expenses related To trading and related activities”.

2.1.3. The Three-Pillar Development Policy

The Three Pillar Development Policy (TPDP), first presented at the Mongolia Economic Forum held on March 28, 2018 by the National Development Agency, is composed of State Reform, Social Policy Reform, and Economic Policy Reform. Having been developed in line with the Sustainable Development Goals and the SDV 2030, the TPDP is based on the core concept that the development of Mongolia should be based on good government, a human- centered society, and economic development.

Especially for economic development, the TPDP stresses light industry, mining-heavy

5 Available from http://www.mfa.gov.mn/wp-content/uploads/2015/06/2016-2020_Gov_AP_Eng_Revised.pdf. industry, and the trade-tourism infrastructure sector. For example, the documentsets out that Mongolia will become a food exporting country through the development of the agriculture and food processing sectors specifically targeting middle and high-income consumers in neighboring markets. [Figure 2-1] summarizes the Three-Pillar Development Policy goals.

[Figure 2-1] The Three-Pillar Development Policy Goals

MONGOLIA WITH INTEGRATED GOALS

2. GOVERNMENT REFORM

1.1. 2.1. AGRICULTURE. POLICY LIGHT INDUSTRY IMPROVEMENT STABILTY OF THE QUALITY OF LIFE STANDART

MONGOLIAN 102 1.2. FAMILY - TRADITION. 2.2. MINING. CENTRED CULTURE. STATE HEAVY HUMAN HEALTHY AND INSTITUTIONS’ Strengthening Economic Development Planning and Infrastructure Funding for Mongolia INDUSTRY DEVELOPMENT ETHICAL HUMAN STABILTY POLICY DEVELOPMENT POLICY 1. ECONOMIC POLICY REFORM

1.3. IMPROVE ACCESS TO 2.3. AN EDUCATION SYSTEM TRADE. COMPREHENSIVE . ETHICAL. WILL BE DEVELOPED TOURISM AND QUALITY HEALTH CARE FAIR AND MAKING IT FLEXIBLE AND INFRAST. SERIVICES AND TRANSPARENT COMPETITIVE RUCTURE PREVENTING DISEASE PUBLIC SERVICE

3.1. POLICY TO 3.2. POLICY TO 3.3. POLICY TO DEVELOP REDUCE REDUCE MONGOLIAN PEOPLE POVERTY UNEMPLOYMENT

3. SOCIAL POLICY REFORM

Source: National Development Agency.

2.2. Examples‌ of Prioritization Criteria: International Trade and Regional Structure

Major sectors that have been set up as priority industries so far, such as agriculture, tourism, mining, manufacturing, and infrastructure sectors need to be assessed. For instance, in terms of trade performance, we can compare the importance of major industries.

According to the National Statistical Office of Mongolia, in the first seven months of 2017, Mongolia traded with 145 countries and the total trade turnover reached USD 5.9 billion, of which USD 3.5 billion was exports. Compared to the same period of the previous year, the trade increased by USD 1.5 billion, mainly due to the export of mineral products including coal. Foodstuffs import has increased sharply since 2007. At the same time, the export of textile products including cashmere gradually increased over the last two decades. Mongolia’s exports are concentrated on a few items. Mineral products and commodities make 89% of the entire exports. Because of world mineral market price fluctuations and heavy dependency on the Chinese market, Mongolia has not been able to accomplish stable and sustainable development. Cashmere products, which are relatively well known in Asia and Europe, are becoming more and more exportable. Food products are also emerging as an export industry. Main export products include copper concentrate, coal, gold, petroleum and iron ores and concentrates. The proportions of individual products are shown in [Figure 2-2].

[Figure 2-2] Main Export Products, 2014-2016 (Unit: %)

Copper concentrate 2016 32.7 19.8 15.4 6.9 5.1 Coal

Ungraded and semi-finished gold Unrefined petroleum Iron ore, concentrate, pyrite 2015 48.8 11.9 9.0 8.3 4.9 Dirty cashmere Dense copper and alloy 103 Fluorite ore and concentrate Chapter Others

2014 44.6 14.7 7.0 11.0 7.7 02 Policy Prioritization across Sectors

0 20.0 40.0 60.0 80.0 100.0

Source: www.1212.mn.

2.2.1. International Economic Policy

Mongolia does not have any multilateral and regional trade agreements although it does qualify for quite a few Members’ GSP schemes. Mongolia has established bilateral investment and trade agreements with 43 countries and agreements on the avoidance of double taxation with 29 countries. The main policy decisions for promoting international economic cooperation and trade in Mongolia includes the Trade and Investment Framework Agreement (TIFA) with the United States in 2004, Economic Partnership Agreement (EPA) with Japan in 2015, the framework Agreement on Comprehensive Partnership and Cooperation (PCA) with the European Union (EU) in 2013, and Foreign Investment Promotion and Protection Agreement (FIPA) with Canada in 2016. Mongolia has been seeking a free trade agreement with South Korea and China. Mongolia is actively seeking to expand a transportation system with neighboring countries and concluded a Memorandum of Understanding to establish an Economic Corridor with Russia and China in 2016. 2.2.2. Regional Structure and Development Policy

It will be possible to prioritize the relative importance of sectoral policies in terms of industrial upgrades as well as regional development. Mongolia is divided into five development zones: Western, Khangai, Central, Gobi, and Eastern regions. According to the research conducted by Sector Development Policy and Regulation Division Team (SDPRD team) of the NDA, Mongolia is divided into a system of 27 cluster zones in which leading sectors could be located. For example, the SDPRD team identified suitable regions for light industry development in Mongolia.

Another example is the Green Development Corridor concept that includes the primary idea of building agricultural industrial technological parks in the zones defined by 200 different indicators taken from the survey conducted by the SDPRD team in 2016. The survey database includes researches and development indexes taken from all provinces and soums (provincial units).

[Figure 2-3] Green Development Corridor 104 Strengthening Economic Development Planning and Infrastructure Funding for Mongolia

Source: Study on Regional Development of Mongolia, JICA, 2016.

2.3. Case Study of a Recent Sectoral Policy Documents

The practices of policy prioritization were assessed with reference to the close-to- completion sectoral policy report containing 17 projects nationwide. Among the 17 sector policies, the analysis of this study will be mostly focused on policies on agriculture, tourism, mining and energy, light industry, and heavy and petrochemical industry. 2.3.1. Agricultural Sector Policy

Agriculture has been identified as a priority economic sector in the SDV 2030. The agriculture-related objectives of the SDV 2030 include: preserve the gene pool and resilience of pastoral livestock breeding for coping with climate change; create proper flock structure of livestock in line with grazing capacity; develop intensive livestock farming; adopt new and efficient irrigation technologies; increase the area of irrigated arable lands; increase farming technology in grain fields; reduce soil degradation and erosion; and support herders and herder groups and small and medium-sized farmers by providing them with modern technologies and electricity as well as through leasing, concessional loans, and other financial instruments.

Mongolia prioritizes the Khangai and Central regions as main regional development areas for the agricultural sector. Remarkably, the Khangai region was selected as the priority economic area for environmentally sound meat and dairy products, good quality leather, wool, and cashmere. The establishment of an Agro Production and Technology

Park (APTK) aimed at upgrading green agricultural value chain and the free trade zone 105

(FTZ) was planned. The APTK aims to increase the productivity and logistics accessibility of Chapter agricultural products including vegetables, leather, wool, cashmere, milk, dairy products, 02 meat, and meat products. Currently, more than 40 sites have been selected, of which eight Policy Prioritization across Sectors are planned for early development.

The recent main policy programs for agricultural sector development in Mongolia have been as follows:

• Agricultural production objectives are set in the 2009 National Program for Food Security, as Governmental Resolution No. 32, designed for the period 2009-2016. Among others, the Program puts an emphasis on branding Mongolian food as organic products, the improvement of food production technology, adopting good hygiene practices in agriculture, implementing food safety monitoring, and preventing and monitoring diseases related to nutrition. • The Organic Mongolia Program was launched in 2009, an initiative of the Mongolian National Chamber of Commerce and Industry. It has made an important contribution to the development of organic production through its micro-credit program. • The 2010 National Mongolian Livestock Program, as Governmental Resolution No. 23, operating in two phases, which are over the 2010-2015 and 2016-2021 periods, aims to establish a favorable legal environment for the sustainable development of the livestock sector, to develop intensive livestock breeding, to increase productivity and economic efficiency considering climate change, and to reduce the risk of livestock breeding by improving degraded pastures and improving feed production and supply. A special program for intensive livestock farming was also in place as 2003 Governmental Resolution No. 160, in 2003-2015. • The Sea Buckthorn National Program (2010 Governmental Resolution No. 60), designed with two phases of implementation (2020-2012, 2013-2016), promoted the cultivation by family farms of sea buckthorn. The promotion of sea buckthorn production and export has also been reflected in the Action Plan of the Government 2016-2020. • The government has recently approved the "Fruits and Berries Development Program" to harness production and trade in fruits and berries including sea buckthorn (August 2017). Currently, Mongolia grows fruits and berries in 6.1 thousand hectares of land and harvests 2.6 thousand tons of berries and fruits.

2.3.2. Tourism Sector Policy 106

Strengthening Economic Development Planning and Infrastructure Funding for Mongolia Tourism in Mongolia covers 3.2% of GDP (695.0 billion MNT) in 2014. In 2015, it increased by 7.8% to reach 749.4 billion MNT. Over 400 thousand tourists traveled to Mongolia in 2016, which grew by 4.4% from the previous year. Recreational tourism spending is expected to increase by 5.4% each year to reach 1,194 billion MNT by 2025, while business travel spending will increase by 8% each year to reach 3.525 billion MNT by 2025.

The trend of number of tourists and employment performance at the tourism sector is shown in [Figure 2-4]. In 2016, 404,000 tourists visited Mongolia, and the tourism sector contributed USD 312 million to the domestic economy. Of foreign visitors, individual tourists were 51%, while tourists who are traveling with a tourist group made up 49%, the latter of which spent an average of approximately 14 days. In 2016, more than 1.9 million Mongolians traveled overseas, of which 230,000 have traveled by Buyant Ukhaa Airport, 420,000 by Altanbulag Port, and 810,000 by Zamyn-Uud Port, of which latter two locations are dry ports on the borders with Russia and China respectively. From that perspective, domestic travelers were 4.7 times greater in number than foreign tourists in 2016. [Figure 2-4] Overview of Recent Tourism Industry in Mongolia

a. Number of Inbound Tourists b. Number of Employees (Unit: Number) (Unit: Number of Employees)

475,893 417,815 404,156

392,844 386,170

7,932 6,653

5,270 4,675

3,717

2012 2013 2014 2015 2016 2012 2013 2014 2015 2016

Source: World Tourism Board.

107

According to statistics from the "Tourism Economic Impact" by the World Tourism Board, Chapter tourism in Mongolia comprises 5.3% of GDP in 2015, and investment in the sector amounted 02 to 1,246 billion MNT, which accounted for 21.9% of total investment. As of 2016, a total of 274 Policy Prioritization across Sectors tourist companies, 487 hotels, and 390 tourist camps were operating and creating 54,000 jobs for the sector, which accounted for 4.8% of total employment.

In the past six years, environmental and tourism sector investments amounted to 63.4 billion MNT in state investment. During this period, the maximum yearly amount of 30 billion MNT was spent in 2011 and the minimum amount of 0.5 billion MNT was spent on investment in 2016. [Figure 2-5] shows the investment performance of the 2011-2015 budget, the budget amendment for 2016 and the 2017 budget proposal. [Figure 2-5] Recent Investment Performance in Mongolia Tourism Industry (Unit: Million, MNT)

3,966.8 4000

3500 2,932.1 3000

2500 2,058.9 1,926 1,752.5 2000 1,467.5 1,304 1500

756.8 1000 502.1 538.9

500

0 1 2 3 4 5

Buildings Major repairs Equipment

Source: World Tourism Board. 108 Strengthening Economic Development Planning and Infrastructure Funding for Mongolia According to the World Competitiveness Survey of the World Economic Forum (Schwab, 2017), the score for travel service (2.7 points out of total score 7) and for cultural heritage and business trips (1.8 points) were extremely low and implied much room to be improved compared with the overall country score 3.3 points. Most of the tourists (76%) were attracted to traditional Mongolian customs, culture, and beautiful nature and wildlife, and they’ve rated Mongolian tourism services as excellent (13%), good (46%), satisfactory (20%), moderate (17%), and poor (4%). Impressively, 76% of all respondents said that they will return. The recent challenges facing the tourism sector in Mongolia are a lack of appropriate monitoring and implementing public agencies as well as well-defined tourism development goals and integrated policies at the national level. The sector needs to make an amendment to the Tourism Law as the World Tourism Organization's recommendation and to expand policy support with export and SMEs support programs. During 2012-2016, Environmental and Tourism Sector Policy tried to ensure that economic and social development trends will not undermine the ecosystem balance. The policy program aims to ensure the proper use and regeneration of natural resources, to develop eco-friendly sustainable tourism, to maintain the stability and sustainability of the environment, and to promote the harmonization of the State, citizens, business entities, and organizations for ensuring green development. Important tourism sector policies for the period 2016-2020 are as follows:

• Improve the legal environment for tourism development; • Improve cooperation with international tourism projects and programs such as the Silk Road and the Tea Road, to develop border tourism and tourism infrastructure to improve the quality of products and services, and the standards of the industry; • Market tourism products to global markets, promote marketing activities with the State, and improve tourism capacity; • Boost foreign investment to establish a tourism center that has natural and unique landscapes, historical and cultural monuments, and nomadic lifestyles, such as "Khangrun", "Otgontenger", "Khamariin Khiid", and "Khorgo-Terkh”, and to increase the number of foreign tourists in Mongolia; • Create environment friendly rest stops and service complexes in accordance with international tourism standards.

2.3.3. Industrial Sector Policy 109

The industrial sector is a major part of Mongolia's economic development. According Chapter to preliminary estimates from 2017, Mongolia's Gross Domestic Product (at current prices) reached 27.2 trillion MNT, and 8.9 trillion MNT (32.7%) was generated by the industrial 02 Policy Prioritization across Sectors sector. In 1940, the manufacturing industry occupied 90% of the industrial sector, but in 2015 it decreased to 21%. The mining industry has been developing rapidly since the large mining reserves began operations.

In Mongolia, there were 155.1 thousand enterprises registered in 2017, of which 78.6 thousand (50.7%) were currently operating regularly. Of the total business entities, 6.8 thousand (8.7%) were engaged in industrial activities. Of the total enterprises engaged in the industrial sector, 753 (11.1%) were operating in the mining industry and 5,781 (85.2%) were operating in the manufacturing industry. The number of employees (aged 15 and above) was 1,147.8 thousand in 2017, of which 167.4 thousand (14.6%) were employed in the industrial sector.

Of the total number of enterprises operating in industrial sector, 4,027 (59.4%) were located in Ulaanbaatar city, 233 (3.4%) in Uvurkhangai aimag, 233 (3.4%) in Darkhan-Uul aimag, 198 (2.9%) in Bayan-Ulgii aimag, 195 (2.9%) in Khovsgol aimag, 192 (2.8%) in Orkhon aimag, 182 (2.7%) in Khovd aimag, 169 (2.5%) in Uvs aimag, 167 (2.5%) in Zavkhan aimag, 153 (2.3%) in Umnugobi aimag, 140 (2.1%) in Bayankhongor, 137 (2.0%) in Selenge, and 757 (11.2%) in other aimags.

Recent Trend of Total Industrial Production in Mongolia (Unit: Trillion MNT) 2013 2014 2015 2016

Mining Industry 5,216.9 6,396.7 5,858.0 7,059.3 71.0%

Manufacturing Industry 1,935.3 2,312.8 2,089.5 2,023.0 20.3%

Electricity, Heat, and Water 524.3 628.6 676.3 861.0 8.7%

Total Industrial Production 7,676.5 9,338.2 8,711.8 9,943.2 100%

Source: The Government of Mongolia ( Preliminary Estimates, 2017).

Mongolia invested 10.3 trillion MNT in 2017, of which 5.2 trillion MNT (50.5%) was invested in the industrial sector. Out of which, 4,474.2 billion MNT (85.7%) were invested in the mining sector, 155.1 billion MNT (3.0%) in the manufacturing sector, and 592.7 billion MNT (11.4%) in electricity, gas, and water supply sectors.

The government's industrial policy focuses on a set of objectives that is aimed at the diversification of the structure of industries and products, and the promotion of sustainable

110 economic growth through the development of value-added products and services from the

Strengthening Economic Development Planning and Infrastructure Funding for Mongolia current dependence on raw materials of agricultural and mining production. The purpose of the policy is to establish competitive products and services through advanced technology, and to develop the industrial sector as a leading one in Mongolia.

Industrial development strategies include:

• Support the development of food processing industries that use agricultural raw materials; • Develop diversification strategies, especially small and medium enterprises development strategy, through mass production, cost-sharing, and supply chain development; • Diversify light industries and the manufacturing industry; and • Support industry by rebuilding existing industrial resources.

2.3.4. Mining Sector Policy

The mining sector is crucial to the Mongolian economy and society. In 2018, the mining sector's total output was 6,972.8 trillion MNT, and the share of mining products in GDP and the share of total industrial production in GDP are 23.8% and 69.5%, respectively. As of the first seven months of 2018, the mining sector exported products worth USD 5,297 million, a 94% share of total exports, while imports of mining machinery, equipment, parts and components, and petroleum products needed by mineral processing plants are a significant part of the total import.

The number of employees in the mining sector has tripled since 2004, accounting for 25% of the total employment in the industrial sector, and average wages and bonuses are twice as high as those in other sectors. As the extractive industry grows, labor demand in the service sectors has grown.

In the mining sector of Mongolia, 23,800 people are employed. Thus, the sector directly affects the livelihood of over 23,000 households, or about 120,000 people. In addition, the growth of the mining industry has been indirectly influencing the livelihood of those who receive social welfare benefits due to the increase in mining income. The mining industry has a positive linear relation with the production of infrastructure, such as construction, transport, storage, information, communication, electricity, steam, and water.

Major Mineral Resource Reserves in Mongolia

Minerals Unit Resources, 2016 111

Copper Million Ton 57 Chapter

Coal Billion Ton 37.2 02

Iron Ore Billion Ton 1.2 Policy Prioritization across Sectors

Gold Ton 2,500

Zinc Million Ton 1.7

Fluorite Million Ton 48.3

Uranium Thousand Ton 197

Oil Million Ton 362.2

Source: Ministry of Mining and Heavy Industry.

Production of Major Mineral Resources in Mongolia (Unit: 1,000 tons except kg for gold) Forecasts Sorts 2015 2016 2017 2018 2019 2020

Copper Ore 1304.3 1449.7 1,480 1,820 1,920 1,930

Coal 14,500 19,500 19,500 20,000 20,000 20,000

Iron Ore (56%) 6,100 8,800 10,000 10,000 10,000 10,000

Gold 14,600 15,000 18,000 20,000 23,000 25,000

Zinc Concentrate 84 110 130 140 165 165 (50%)

Spar Concentrate 68 70 80 80 80 80

Spar (Metallurgy) 212.3 230 230 230 230 230

Molebdenium 4.5 3.7 4 7.5 8 8.4 Concentrate

Source: Ministry of Mining and Heavy Industry.

112 The Mongolian mining sector has recently faced quite a few challenges including Strengthening Economic Development Planning and Infrastructure Funding for Mongolia uncoordinated, inaccurate, and ineffective laws as well as policy documents conflicting with each other, rent seeking of increased licensees, neglected regulations on environmental protection and labor safety, and unclear criteria for selecting strategic deposits not aligned with national and regional development policies. In this context, mining sector policies are attempting to increase the number of extractive and processing plants, to support the production of value-added products, to improve products’ diversification and export capability, and to expand employment in local areas, which will help with decentralization. Especially, major contents of the State policy on the mining sector 2014-2025 are as follows:

• Double the revenues from the mining sector in 2019-2024, increase four-fold in 2025-2035, and six-fold in 2036-2050; • Promote private sector-based, transparent, and responsible mining that complies with national interests, and improve the quality of mineral exploration, mining, and processing through promoting innovation; • Create a stable investment environment to improve the quality of mineral exploration, mining, and processing through advanced and environment friendly technology, and to supply value-added products to international markets; • Cooperate with licensees to increase geological exploration and to perform their accreditation in compliance with their labor conditions and other obligations; • Intensify the economic circulation of strategic deposits, including the start of the operation of Asgat, Burenkhaan, the Tsagaan suvarga silver, phosphorus, and copper-molybdenum deposits, and uranium deposits in Dashbalbar soum of Dornod aimag with the assistance of professional experts and licensees in the near future (2019-2024); • Build a gold refining plant in Ulaanbaatar.

2.3.5. Energy Sector Policy

The Mongolian energy industry has great potential due to its rich coal and renewable energy sources, lively economic growth, and growing demand in China. Recently acquired efficient technology that combines heat and electricity production and a sizeable interest in investment by the private sector gives additional opportunities to the energy industry. The energy industry faces serious challenges including external dependence and import increase of primary and secondary energy, overdependence on China for the supply of technology and materials, an unsuitable energy tariff and subsidy system, and comparatively high costs for renewable energy.

Therefore, it is urgent to develop energy technology, increase power generation capacity, 113 enhance production and utilization efficiency, and improve the quality of regulation on the Chapter energy industry. It is also recommended that the energy sector should invest in clean coal

technology, carbon dioxide storage systems, technology for the use of gas and liquid fuels 02 for heating, technology and equipment for power generation and power-accumulation, Policy Prioritization across Sectors construction of logistics and infrastructure to supply electricity to China, and the production of power generators for herder families. These investments are for maintaining the balance of the environment, fulfilling obligations under the Paris Agreement, ensuring comfortable living conditions for its citizens, increasing the economic capacity of the country, and ensuring national security.

Promoting the energy industry as the main economic sector is the first step to resolving the problems that Mongolia is facing and increasing exports vigorously. Mongolia has the capacity to produce and export electricity to neighbor countries, since it has abundant primary energy reserves. Compliance with the interests of neighbor countries is the key to the successful policy implementation.

Since the State policy on the energy sector was approved on November 1, 2007, the energy policy objectives in Mongolia are as follows:

• Reestablish the energy sector to the private sector-based, regulated, competitive market system. • Launch innovative and advanced technology in the energy sector. • Implement efficiency and cost-saving policies. • Provide reliable and secure supplies such as raw materials and equipment to the energy sector. • Develop mutually beneficial cooperation with regional countries. • Improve human resources development and capacity building in the energy sector. • Increase renewable energy production, reduce negative environmental impacts of traditional energy, and reduce greenhouse gas emissions.

2.4. Assessment‌ of Mongolian Situation: Obstacles and Future Tasks

An overview of Mongolia's sectoral policy formulation and prioritization is as follows. First, there is no clear link between the mid- and long-term development plans and sectoral policies. Mid- and long-term development plans, like SDV 2030, contain detailed macroeconomic targets. For achieving such targets, sectoral policies are essential. Second, there seems to be a lack of awareness of industrial policies. The goals of the mid- and long-term development plans include macroeconomic indicators, and environmental 114

Strengthening Economic Development Planning and Infrastructure Funding for Mongolia and social aspects. To realize them, industrial policy is essential for the diversification and advancement of industrial structures, the differentiation of regional development strategies utilizing regional characteristics, and the development of technologies and manpower required for achieving these industrialization goals. Third, sectoral policies are not sufficiently interrelated. The temporal sequences and interrelationships among sectoral policies are crucial for their successful implementation. Fourth, the priorities among sectoral policies are not explicitly articulated. In developing countries where human, physical, and financial resources are scarce, priority among sectoral policies is particularly important. Fifth, the basis of prioritizations and their decision process has not been clearly announced. Regarding the recent 17-sector policy package, the application of policy prioritization criteria and decision-making processes based on the 2015 Development Policy Planning Act have not been explained. In the cases of industrial policies, only the external dimensions such as the size of the industry were presented, but the degree of value added, technology level, price and quality competitiveness, required resources, industrial linkage effects, and employment inducement effects have not been rigorously analyzed.

The Mongolian situation in the policy prioritization system was assessed with the presentation of recent difficulties and future development challenges to solve them. By the enactment of the Law on Development Policy Planning, the responsibility and authority of each institution became clear, and the timeframe of development planning was systemized into short, medium, and long-term plans. Since the Sustainable Development Vision 2030, one of the long-term plans set up in 2016, as well as more than 170 sectoral policies have been drafted according to the procedures established by the law.

However, the mid- and long-term economic development plans of Mongolia are weak in their scientific and economic grounds, and so are regarded as generally an optimistic wish list. Thus, it is also difficult to evaluate those mid- to long-term plans, and to systematically materialize them into programs and projects. In addition, the roles of the Ministry of Finance (MOF) and NDA, which are responsible for policy coordination, have not been stabilized, and cooperation between the two institutions is insufficient.

Above all, it is difficult and complicated to adjust the authority and policy proposals from line ministries. Each line ministry proposes a sectoral policy and submits data, statistics, and information supporting their policy alternatives to the MOF and the NDA. Currently, the MOF evaluates and approves the policy proposals of the line ministries. It then establishes and enforces a budget each year, and then monitors and evaluates policies of line ministries every two years. On the other hand, the NDA is coordinating development and investment policies with regional focuses proposed by line ministries or local governments. The coordinating authority of the NDA is weak because it is a vice-minister-level agency. 115 However, if the prime minister expresses a stronger interest in policy coordination from the Chapter viewpoint of economic development, the influence of the NDA could be strengthened since it

directly reports to the Prime Minister. Therefore, it is necessary to establish procedures for 02 authority, coordination, and cooperation of each institution in relation to the establishment Policy Prioritization across Sectors and implementation of development policies and programs.

Moreover, the MOF tends to be overly concerned with the budget process, focusing on short-term economic stability or financial austerity rather than mid- to long-term policy planning. It is critical for coordinating agencies to be able to adjust the policies of line ministries at a higher level and to provide policy directions and guidelines for the ministries. There is a lack of expertise in macroeconomic policy and development planning, so public think tanks are needed by the MOF and NDA to get support from consistent scientific analysis capabilities for policy coordination. It is worth examining the possibility of benchmarking institutions in Korea such as the Economic Planning Board, which was active from the 1960s to the 1980s during the full-fledged economic development period and the Planning and Budget Ministry after the 1997 financial crisis. Such a planning organizational framework intended to strengthen the planning agency which maintains a viewpoint of the mid- and long-term development strategy to have checks and balances with the finance ministry focusing on fiscal soundness and the short-term economic stabilization. In addition, the infrastructure such as statistics, databases, and networks for policy decisions and prioritization should be reinforced. 3. Sectoral Policy Prioritization in Korea and Newly Industrialized Countries

3.1. Overview

The selection of sectors to be fostered by the government depends on the stage of economic development (Felipe & Rhee, 2015). In the early stages of economic development, the government unilaterally selects strategic sectors because the capacity of the private sector is insufficient. Especially, in the earlier stage of development, the national economy operates within the technological frontier, so the government supports private firms to import and adopt the existing advanced technology. Thus, it is easy for developing countries to emulate advanced countries, of which the risk is moderate. In some cases, based on political economic consideration, authoritarian governments of many developing countries attempt to demonstrate the legitimacy of the weak regime under political uncertainty.

As the economy develops and approaches the technology frontier, and the economic

116 structure becomes complicated, the capacity of the private sector strengthens. Thus,

Strengthening Economic Development Planning and Infrastructure Funding for Mongolia the private sector is gradually taking the initiative in policy prioritization. In the case of Mongolia, the industrial structure is not yet significantly diversified, and the investment resources are limited. Therefore, the government needs to select sectors, such as industries and regions, for promotion.

This section examines the policy prioritization system in the field of industrial policy and science and technology policy in Korea as a reference for coping with challenges related to Mongolian policy prioritization. In addition, we review Japan and Taiwan as best practices of newly industrialized countries after the Second World War.

3.2. Korea’s Industrial Policy and Sectoral Prioritization Methods

A series of industrial policies with sectoral prioritization has been implemented and mostly turned out to be successful in Korea (Chang, Andreoni & Kuan, 2013). Implications will be derived from the Korean cases including the successive promotion of export- oriented, labor-intensive, light industries in the 1960s, heavy and chemical industries in the 1970s, information technology industries in the 1990s, and new growth engines like high-tech or convergence industries since the 2000s. Throughout the whole period, the main policy instruments have shifted from industry targeting to indirect selection through the support of R&D and innovation, sharing risks with sophisticated financial market instruments, and provision of physical and information infrastructure (Felipe & Rhee, 2015).

shows the policy prioritization criteria emphasized at each stage of industrial structure enhancement in the Korean economy. Industrial Structure Enhancement and Policy Prioritization Criteria

Social and Technology Resource Economic Regional Environmental Aspect Aspect Aspect Aspect Aspect

Unlimited Supply Reliance Democracy and Overall 1945 ~ 1950s Primary Industries of Unskilled on Foreign market-economy Backwardness Institution Dependence Labor Aid Import institution Urgency of Post- Building, Low Productivity: Universal Substitution of building, War Recovery Primary Industry Small-Farming Elementary Consumer Goods Land reform Focus Education

Low Tech Intensity Low-Wage, Well- International Simple Processing Disciplined Labor Export-Oriented Trade Unbalanced 1960s Technology Public Sector Industrializtion Institution Regional Labor-Intensive, Factory Operation Man- Focused on Light Setting: Devlopment, Light Industry Technology Power Industries Joining GATT & Creation of FEZ Low Value Added Foreign Loan Founding KOTRA

Emphasis on Value added National Expansion of Skilled Labor Domestic Value Increase Security and Local 1970s ~ 1980s Specialized Chain Product Retreat of Infrastructure Heavy and Industrail Forward and Sophistication Democracy Like Petrochemical High Schools Backward Equipment Quality Job Highways and Industry Public Sector Industry-Linkage Embedding Creation Industrial Manpower Effects 117

Technology Public Health Complexes Chapter Insurance

Technology Privatization and Mitigation of 02 Income

Intensity Private Sector Initiative of Regional Policy Prioritization across Sectors 1990s Redistribution Increase Experts Private Imbalance, such IT Industry & and Welfare Localization of Nurturing Sector as Service Expansion: Technology Engineering Corporate Seoul Industry National Non-Technical Colleges Environment Metropolitan Pension Innovation IT Infrastructure Concentration

Long-Term Horizon Increasing 2000s Highest Technology Focus on Investment Coping with Request for Advanced, Intensity Entrepreneurship Corporate Deepening Balanced Fusion, & Creative and Creative Govern-ance Polarization & Regional Biotech Industry Technology Talent Improvement Climate Change Development Global Market Leader

Political Value-Added of Domestic Value Local Acceptance Products and Chain Infrastructure Piblic Sector and Legal, Services Corporate Physical Himan Resources Institutional Technology Environment Infrastructure Core Criteria for Private Sector Validity Intensity Foreign Market Regional Suggestion Human Resources Social Impacts and Technological Access Industry Natural such as Equity Innovation and Trade Linkage Resources Improvement Non-Technological Balance Domestic Market Environmental Innovation Effects Demand Impact

Source: This table was written by the author. Until the 1950s, the Korean economy was heavily dependent on primary industries such as agriculture, fisheries, mining, while agricultural productivity was very low due to the main production structure being small farms. The lack of an industrial base and weak job creation led to an oversupply of unskilled labor. Investments were funded mostly through foreign aid and the export of commodities and primary products, while the level of investment activities were low due to insufficient investment funds. However, it is assessed as a period when foundations of economic development were laid by establishing education systems such as universal elementary school education along with agricultural land reform. Major consumer goods were imported but a limited scope of import substitution took place, centered on some non-durable consumer goods industries such as food processing, clothing, and raw materials supply for these industries, which was not pursued strategically or systematically.

In the 1960s, as exports growth was regarded as the driving force of economic growth and emphasized as the most important criterion for policy priorities, the Korean government strenuously supported labor-intensive light industries such as textiles and clothing, toys, and 118 footwear. During this period, the government selected target sectors for promotion with the

Strengthening Economic Development Planning and Infrastructure Funding for Mongolia consultation of the president and economic and industrial ministers. The export-oriented industrialization started from the simple processing of low-value-added consumer goods. Those industries were able to attain international competitiveness based on cheap but well- educated labor. In other words, wage competitiveness and foreign currency acquisition potential were the criteria for sector selection. In this decade, the import substitution of basic raw materials such as fertilizer, PVC, cement, refined oil, and iron and steel advanced along with consumer goods. As a part of the international trade institutions, Korea joined the General Agreement on Tariffs and Trade (GATT) in 1967. For the purpose of export promotion, the Korea Trade Promotion Corporation (KOTRA) was established in 1962. On the regional side, the adoption of imbalanced development strategies resulted in the creation of export industrial complexes and free export zones.

Among the criteria applied to the selection of strategic industries in the stages of early industrialization, the economic aspects including export potential, value added, and economies of scale were similar in Japan and Taiwan. In the process of early industrialization, Japan also fostered industries characterized by high added value, high- income elasticity of demand, increased returns to scale, and oligopoly structures with high profitability (Pitelis and Teece, 2016). The Japanese government determined that proper competition was more important than perfect competition for economies of scale. In Taiwan, policies for import substitution in the 1950s and for export promotion in the 1960s were adopted as strategies for industrialization (Yang, 1993). Labor-intensive industries were targeted by using the competitive advantages of low wage. After the oil shock in the 1970s, the Taiwanese government started to foster capital and technology-intensive industries.

From the mid-1970s to the 1980s, in order to expand industries with high-income elasticity of demand and improve the trade balance by lessening the dependency of capital goods on imports, policy priority was given to heavy and petrochemical industries such as steel, nonferrous metals, shipbuilding, machinery, chemical, and electronics industries. In this decade, foreign exchange acquisition and the improvement of international balance, as well as the forward and backward linkage effect and economic growth contribution, were used as criteria for selecting target sectors. During this period, the importance of public- private sector consultation was emphasized for the selection of target sectors. Specialized industrial high schools were opened to nurture a skilled labor force and technical personnel, and quite a few public research institutes were established to actively support small and medium enterprises with production technology development. Regional infrastructure such as highways and national industrial complexes expanded rapidly. The government began to pay attention to the welfare system by introducing national health insurance in 1977, which expanded to all citizens in 1989, and a national pension system in 1988. 119 Chapter

As industrialization matured, the technical aspects of strategic sector selection criteria 02 were further emphasized. This phenomenon appeared to be similar in Japan and Taiwan. Policy Prioritization across Sectors For example, Korea and Taiwan switched from unskilled labor-intensive industries in the 1960s to skilled and technology-intensive industries in the 1970s, with Japan 20 years ahead (Ranis, 1995). In Japan, the emphasis was on technology transfers from developed countries, rather than the attraction of foreign direct investment, as a means to absorb the advanced technologies of developed countries, which was similar to Korea's industrialization strategy. In the 1980s, the Ministry of Economy, Trade, and Industry (METI) of Japan concentrated on the development of electronics, automobiles, and semiconductors with high-technology intensity.

In Taiwan, in the 1980s, the strategic industrial system was introduced in response to the need to upgrade the industrial structure, which was also referred to as star industries, new industries, and core industries. In this period, the six criteria for selecting industries to be developed were industrial linkage effects, market potential, technology intensity, high value added, low energy consumption, and low pollution. As a result, the machinery, IT, and electronics industries were designated as strategic industries and biochemistry and materials were added in the late 1980s.

Since the 1990s, the Korean government has fostered high-tech industries with high technology intensity, such as precision electronics, electronic control machinery, new materials, bio-industry, optics, as well as the aviation and information technology industries. The efforts to promote technology-intensive industries began in 1981 when the government selected strategic industries with high R&D intensity such as semiconductors, automobiles, shipbuilding, metals, and small aircraft. In 1986, the Industrial Development Law was enacted so that industrial policy was transformed from a focus on sectoral interventions to functional promotions. Non-technical innovation was emphasized for the servitization of the manufacturing industry and the development of service industries, and efforts were being made to expand the IT infrastructure and improve the business environment. In this period, the private sector led the selection of target sectors such as semiconductors and other high- tech industries. The role of the government was significantly weakened, transforming to indirect policy means, and so private sector human resources led the industrial upgrade. The gravity of human resources moved from the public to the private sector, focusing on entrepreneurs and creative talents. In terms of the social and environmental impacts, high- income jobs were created through the fostering of the heavy and chemical industries in mid-1970s and income redistribution was emphasized as a policy target due to the pressing 120 demand for economic equality and the deepening of labor disputes in the 1990s. The system Strengthening Economic Development Planning and Infrastructure Funding for Mongolia for income redistribution was reinforced and the national pension became mandatory. Regarding ​​regional development, Korea initially adopted unbalanced regional development strategies in the process of early industrialization, and gradually expanded the scope of regional infrastructure, and then addressed issues of Seoul metropolitan concentration and pursued balanced nationwide regional development.

Since the 2000s, the focus has been on expanding new growth engines centered on high-tech and convergence technology industries. As the dot-com bubble burst, the Korean economy needed to seek new growth engines after IT, such as the biotechnology industry. It became almost impossible for the government to select specific industries for promotion due to the difficulty of foreseeing technological advancement and possibility of international trade disputes. However, R&D support played a role in developing technology-intensive industries. The High-tech Industrial Development Council selected promising high-tech industries to support their R&D efforts or to provide loan guarantees. This Council included government officials, academics, industry representatives, and engineers. In recent years, active responses have been required for the Fourth Industrial Revolution, such as the Internet of Things, big data, AI, and synthetic biology. Therefore, the cultivation of creative talents and entrepreneurs is crucial, as it is critical to improve the venture ecosystem and improve corporate growth conditions. It is also important to mitigate economic polarization and respond to climate change while pursuing regional balance. 3.3. Korea’s‌ Science and Technology Policy and Sectoral Prioritization Methods

Korea’s science and technology policy has been linked and tuned with its industrial policy and provided industries with applied technologies ready for commercialization in the development era. The specificities of Korea's science and technology policy to be referred to are as follows: the foundation of government research institutes including the Korea Institute of Science and Technology (1966); the enactment of the S&T Promotion Act (1967) and the R&D Promotion Act (1972); the establishment of the Five-Year Economic Plans (from the 1980s) including S&T projects as well as National R&D Plans; and supporting university– industry–government linkages.

In 1960, the priority of government R&D transformed from agriculture-oriented industries to industrial technology. In the 1970s, public R&D concentrated on the fields of steel, automobiles, general machinery, and the defense industry. Relatively independent science and technology policy was launched by the implementation of the National R&D Program (1982-1986) and the Leading Technology Development Project (1992-2002), the latter of which was the first government-wide R&D program established by the collaboration 121 of all the related ministries. Chapter

Science and Technology Policy and Sectoral Policy 02 Policy Prioritization across Sectors

Industrices to be Technology Science and Technoloty Human Resource Developed Demand Policy Focus Develpment Focus

Few Public Research Primary Industries 1945 ~ 1950s Institutions Dependence Beginning Stage of Science Institution Building, Defense, Agriculture- Low Productivity : Small- and Engineering Education Primary Industry Oriented Minimal Farming Technology Development

Low Tech Intensity Acquisition of Technology 1960s Expansion of Industrial Simple Processing Technology by Imports Labor-Intensive, Light High School and Vocational Factory Operation Technology of Batch Technology and Industry Training Low Value Added Capital Goods

Value Added Increase Product Absorption and 1970s ~ 1980s Sophistication Strengthening of Engineering Improvement of Petrochemical Industry Equiment Embedding Colleges Imported Technology Technology

1990s Technology Intensity Increase Scale-up of R&D Upgrading Graduate School of IT Industry & Service Localization of Technology Development of Global Best Science and Engineering Industry Non-Technical Innovation Commercial Technology

R&D of Basic Science and 2000s Highest Technology Intensity Original Cultivating Advanced Science Advanced & Fusion Creative Technoloty Technology, and Technology Specialists Industry, Bio Industry National Innovation System

Source: This table was written by the author. Nevertheless, in the 1980s, developments in sectoral technologies including information technology as well as technologies for new materials, bioscience, semiconductors, and electronic exchanges (TDX) were emphasized. In the 1990s, the development of cutting- edge technologies in key industries such as shipbuilding, steel, and automobiles and the development of world-class technologies such as semiconductors, displays, and mobile communications were promoted. In 2000, the National Science and Technology Council (1999) was set up and the Basic Science and Technology Plan (2001-06) was established to expand R&D in six new promising future technologies of information (IT), bioscience (BT), nano (NT), space and airplanes (ST), the environment (ET), culture (CT), and a program for new growth engines including future cars, next-generation semiconductors, and digital TV and broadcasting.

shows the relationship between the focus on science and technology policy and the sectoral policy in each period (Hwang, 2007). In conclusion, South Korea's science and technology policies are assessed to have been in line with industrial policies.

3.4. Reflection on the Prioritization Methodology 122

Strengthening Economic Development Planning and Infrastructure Funding for Mongolia The Korean experiences and their assessment, the strengths and weaknesses in policy prioritization systems, could be reflected in the methodology proposal.

exhibits suggested prioritization criteria. Some elements of these criteria can be measured as quantitative variables, while others can be described as qualitative variables (Felipe & Rhee, 2015; Feldman & Lowe, 2017; Pagels-Fick, 2010; Haeri & Arabmazar, 2018). Therefore, it is very important to get relevant and reliable statistics to measure these elements.

This study explores the prioritization of sectoral policies, which are mainly defined as policies targeting specific industries or regions. The focus here is primarily on industrial policy, and it will include regional aspects as one of the prioritization criteria.

As the debate about the Fourth Industrial Revolution has been developing recently, the first to third industrial revolutions have been distinguished. The industrial revolutions from the first to the third are important in terms of technologies such as energy sources and production methods. In addition to the technology aspect, the resource aspect such as the technical manpower needed to apply and commercialize technologies for each stage of development. The economic aspect is also emphasized for the commercialization of technologies of each stage. A broad definition of economic aspect includes the technical, resource, and economic aspects. As a society develops, on top of the broad concept of the economic aspect, it is necessary to add social and environmental progress. As democracy and local autonomy develop, the regional aspect is also highlighted. In the case of Korea, industrialization took place quickly over half a century since the 1960s, while advanced countries of Europe and North America went through the progress over a whole century. As we have seen in Section 3.2, based on the experience of five decades in Korea, this study suggests policy prioritization criteria with the five dimensions of technology, resources, economy, society and environment, and region, which are the basis for the selection and prioritization of sectoral policies. Criterion indicators and sub- indicators will be defined and applied to the suggested prioritization methodology. Five aspects as criterion indicators and three sub-indicators for each criterion will be briefly defined, as summarized in

.

First, the added value of technology, technology intensity, and degree of innovation are included in the criterion of technology aspect. The added value of the product or service is the added value of the industry, the value-added ratio to the national GDP, and the value-added ratio of the industrial output value. The R&D investment to sales ratio is a representative variable for technology intensity. In the successful late industrialization countries such as Korea, Japan, and Taiwan, the industrial structure has been upgraded from labor-intensive industries to heavy-chemical industries, and to the information technology 123 industry. For example, light industry products accounted for 80% of Korea's manufacturing Chapter exports until the early 1970s, but only a decade later, light industrial products and heavy 02

and chemical industrial products took similar proportions (KDI, 2010). In terms of product Policy Prioritization across Sectors sophistication, it is necessary to examine whether a specific strategic industry uses more advanced technology over time or applies core technologies of the Fourth Industrial Revolution such as Internet of Things, big data, Artificial Intelligence (AI), or synthetic biology. The growth of industries that are active in technological innovation, such as new products or new process development, is the foundation upon which economic growth is driven by innovation. In Korea, since the 1990s, the development of the service economy has been emphasized, and non-technical innovation such as marketing, organization, and design has been required for the servitization of the manufacturing industry and the growth of the service industry.

Suggested Criteria for Policy Prioritization

Criterion Sub-Indicator Definition Indicator

Value-Added of - Value-added amount domestically produced Products and Services - The ratio of added value to total output

- R&D intensity (R&D investment/sales) Technology Technology Intensity - Product sophistication Aspect and Technological - Application‌ of high technology such as Internet of Things, big data, AI, Innovation robotics, nano- or bio- technology, etc. - New product development and process improvement

Non-Technological - Marketing, organization, or design innovation Innovation

- Supply of skilled labor and relevant education and training systems Private Sector Human - Entrepreneurship Resources - Competence of enterprises and industries Resource Public Sector Human - Manpower of relevant line ministries for project planning Aspect Resources - Manpower of relevant local governments for project implementation

- Domestic natural resources such as underground raw materials Natural Resources - Domestic resource cost and resource price and quality competitiveness

124 - Attainable local contents rate

Strengthening Economic Development Planning and Infrastructure Funding for Mongolia - Industrial clusters and corporate ecosystems Domestic Value Chain - Forward‌ and backward linkage effects regarding raw materials and final products

Corporate - Regulations, doing-business environment Economic Environment - Support system related to the relevant industry Aspect - Import‌ substitution: current import amount and expected substitution Foreign Market Access rate and Trade Balance - International‌ competitiveness including current and future comparative Effects advantages - World demand and expected major markets

Political Acceptance - Acceptance of stakeholders and Legal and - Legal and regulatory compliance, and tax and financial support Institutional Validity Social & Environmental Social Impacts such as - Job creation potential including employment quantity and quality Aspect Equity Improvement - Equity-related effects such as income redistribution

Environmental - Effects on land, atmosphere, water quality, flora and fauna Impact

- Physical‌ infrastructure: industrial complexes, transportation, logistics, Local Infrastructure etc. - Information network and local institution infrastructure Regional Regional Industry - Supply base of raw materials, parts and materials in the region Aspect Linkage - Vertical and horizontal associated industries

Domestic Market - Local and nearby population Demand - Access to major city markets such as Ulaanbaatar

Source: Author's own. Second, the human and natural resources of the private and public sectors are included in the resource aspect. In order to develop a specific industry, it is necessary for the private sector to have the skilled manpower required for it, and the education and training system to cultivate such manpower should be prepared. The human resources of the public sector for planning and implementation of the sectoral policies are also essential. The personnel of local governments for project execution are also needed. In the case of Korea, expertise for policy planning of economic ministries’ bureaucrats was critical in the State-led development process. The initiative for the development, which the government had been taking, has gradually shifted to the market and the private sector, which has entrepreneurship and management capacity. Regarding human capital for R&D activities, the role of government-funded research institutes was central to the provision of technology for the strategic industries until the 1970s, and the scientists and engineers employed by research institutes mostly affiliated with private firms took over the central role (KDI, 2010). Being different from the case of Korea, in terms of resources, the availability of underground natural resources and the cost and quality competitiveness of domestic resources should be considered as important factors in Mongolia. 125

Third, the domestic value chain, business environment, foreign market access, and Chapter balance of international payments effects are included in the criterion of economic aspect. 02

The domestic value chain is embodied in achievable local contents rates, industrial and Policy Prioritization across Sectors business ecosystems, and forward and backward linkages from raw materials to final goods. Regarding the business environment related to a specific sector, government regulations, doing-business conditions, and industry support systems related to the investment, production, and sales activities of companies are crucial. Overseas market access and contribution to international payment balances should be reviewed for the possibility of import substitution such as current amount of imports and expected substitution rate, international competitiveness indicating comparative advantage at present and in the future, overseas demand for products, and major markets for the sector. In 1974, the Korean government, recognizing the problem of foreign-made cars' (KD) assembly in terms of restrictions on productivity and quality improvement and export potential, established a long-term automobile industry promotion plan to the foster automobile industry producing completely built-up vehicles for the first time in Korea. The plan required domestic automobile companies to produce at least 50,000 units a year to secure economies of scale and meet the localization rate of 60% in order to acquire government support (KMCI, 1974).

Fourth, political acceptance and social impacts such as equity improvement and environmental impact are included in the criterion of social and environmental aspect. Political acceptance means legal compliance and institutional validity, which are important for the support of stakeholders and provision of tax and financial benefits. Social impacts are defined as quantitative and qualitative job creation potential and equity-related impacts such as income redistribution. Environmental impacts are effects on land, atmosphere, water quality, plants, and animals. In Korea, the unemployment rate remained at 2% before the financial crisis in 1997, so employment issues were not seriously considered in the industrial policy. However, the economic and industrial policies that emphasize employment creation have been prioritized as a result of massive layoffs during the crisis period and the highest unemployment rate ever, and the employment-friendly industrial structure has become an important goal of industrial policy (Keum, 2014).

Finally, local infrastructure, regional industrial linkages, and domestic market demand are included in the criterion of regional aspect. Local infrastructure can be defined as physical infrastructure such as industrial parks, transportation and logistics within and out of the area, as well as information networks and local institution infrastructure. Industrial linkage effects include backward linkage of purchasing locally produced intermediate inputs as well as forward linkage of supplying intermediate inputs to local firms, with the 126 existence of vertically or horizontally related industries in the region. In terms of domestic

Strengthening Economic Development Planning and Infrastructure Funding for Mongolia market demand, it refers to the population size of the region and neighboring cities, and access to major city markets. As the Korean government established the first five-year plan for regional balanced development in 2004, the recovery of regional balance emerged as an important ingredient for industrial policy. Each of sixteen provinces selected four strategic industries respectively (KMOCIE, 2014). At that time, the criteria for selecting strategic industries were primarily to the comparative advantages of industries in the region. All the selected strategic industries were classified to four categories such as next-generation new growth engine industries appropriate for regional conditions occupying 45% of the total, existing core industries that had already agglomerated in the region and were supposed to be upgraded, industries utilizing the natural scenery and regional amenities, and outward- looking export industries. The industries of biotechnology and information technology were selected in duplicate by 12 local governments and 10 local governments respectively, so each province was requested to differentiate its focus areas within these industries. 4. Suggestions for Prioritization Methodology

Methodologies for prioritizing policies among sectors and policy alternatives were examined through literature surveys and case studies in the previous chapter. We concluded that rationales for sector selection include criteria such as high value-added or sophisticated products, technical properties of increasing returns to scale, industrial linkage effect, potential for integrating to the global value chain, access to overseas markets, the potential of job creation, national factor endowments, private sector capacities including entrepreneurship and skilled labor, influence on inequality and poverty reduction, impacts on the environment, and regional background.

In this chapter, theories, institutions, and procedures for establishing long-term economic development plans and prioritizing among sectoral policies are suggested. In applying the prioritization criteria to actual policy cases, a theoretical model that can systematically encompass or selectively include the criteria identified above is essential. Moreover, statistical indicators need to be collected to measure each priority criterion. 127 Opinions of experts and stakeholders as well as feedback from survey results are expected Chapter to be gathered and reflected to determine qualitative assessments of some criteria and

weights that indicate the relative importance between the criteria. For setting up the policy 02 prioritization criteria, the balance between reflecting the changes in domestic and overseas Policy Prioritization across Sectors conditions and maintaining the time consistency and predictability of mid- to long-term planning is also critical.

4.1. Methodologies Based on Economic Theories and Models

In this section, we first look at a couple of approaches based on economic theories and theoretical models, which highlights the most important policy prioritization criteria to assess and compare sectoral policies, are illustrated. Above all, the Growth Identification and Facilitation Framework (GIFF) is presented as an effective methodology (Lin, 2012). From the viewpoint of a nation seeking economic development, the right country for benchmarking with a similar structure of resource endowment, and in the process of dynamic growth, and with high per capita income, needs to be identified. It is a strategy to nurture industries that are appropriate with resource endowment conditions that have achieved solid growth. The government is supposed to support domestic firms that have already entered such industries. In the case where there are no company or an insufficient number of companies, global investors could be attracted with temporary incentives such as tax reduction, joint ventures, and foreign currency loans to promote the growth of those priority industries. Product Space Theory is also a relatively recent theoretical approach (Hidelgo et al., 2007). By analyzing the distribution of products at the product level by applying network theory, the government needs to expand the network of products that are not yet being exported but can be exported together. In other words, the approach suggests ways to promote product groups that have proximity with already exported products, to share comparative advantage, and to develop necessary capacity including tacit knowledge. All products can be ranked according to their proximity to current export product baskets.

This approach distinguishes product families into core products and peripheral products. The former products are more sophisticated, and their industrial linkage effect is also significant. Chemical, machinery, and metal industries are generally included in the former product group. The latter products are less sophisticated and somewhat isolated, including oil, raw materials, tropical agriculture, livestock products, grain, and labor-intensive and capital-intensive products. Investing in industries that produce products that are far from proximity or upgrading the industrial structure from a peripheral product group to a core product group is a very difficult task entailing “high profitability, high risk.” 128

Strengthening Economic Development Planning and Infrastructure Funding for Mongolia At the initial stage of economic development, developing countries have been selecting benchmarking countries as a relatively easy way of prioritization, based on ideas similar with those of the GIFF. Korea, which has been noted for establishing a very peculiar state- led development strategy, referred to the Japan's precedent in establishing industrial policies and China also benchmarked cases of Japan and Korea extensively. When the momentum of economic growth is ignited, an industrialization strategy based on the idea of ​​ the Product Space Theory may be adopted to upgrade the industrial structure and improve the international payment balance. Developing a new export product network is a very challenging strategy. What matters is the capacity of public and private organizations, as well as policymakers and entrepreneurs to implement mid- to long-term development strategies. Worker skills must be fostered for diverse productions. Risks associated with a dilemma between economies of scale and over-investment must be overcome.

4.2. Methodologies‌ Based on Indexation: Composite Indicators (CI) for Priority Assessment

The above-mentioned theory-based approach is useful as a guideline for setting up a comprehensive framework for selecting priority sectors. In this section, as the most common approach for screening policy priorities, the composite indicators method to assess the priorities of specific industries are reviewed. It is possible to establish a consistent methodology that defines the strategic sector to be fostered by government through the calculation of composite indicators. Although Marozzi (2015) suggests a general method for calculating complex indicators, this study explains a composite indicator methodology for selecting strategic sectors, while securing transparency and effectiveness, applied to US manufacturing referring to Di Tommaso et al. (2017). In order to assess the priorities of strategic manufacturing industries in the United States, Di Tommaso et al. (2017) used seven variables: Sector value added (VA) as a % of GDP (2012), Growth rate of VA (2012-2007), Growth rate of full-time equivalent employees (2012-2007), Growth rate of compensation to employees/Full-time equivalent employees (2012-2007), Net export/Full-time equivalent employees (2012), and Investment in private fixed assets (2012).

The strategic sector index (SSI), the composite index this study sets as criteria for assessing strategic priority of a sector is composed of five sub-strategic sector indices (SIs) measuring each of the five aspects of the whole priorities criteria. Each SI is calculated based on three criterion variables (CVs) in each aspect. For calculating both of SSI and SIs, it is necessary to normalize sub-index values (CVs for SIs and SIs for SSI) to compare with each other, and then to get weighted aggregations or calculating composite indicators. 129 Chapter

In order to calculate SIs for each of the five aspects, three criterion variables (CVs) (e.g., 02 for technology aspect, value-added of products and services, technology intensity and Policy Prioritization across Sectors technological innovation, and non-technological innovation) are normalized for normalized CVs (NCVs) and aggregated with weighting to calculate SIs.

Then, the SIs are normalized for normalized SIs (NSIs) and aggregated by weighting to calculate SSIs. In these formulae, denotes each sector (industry), shows the five aspects of the prioritization criteria, and K = 1, 2, 3 are three criterion variables constituting each aspect. In normalization, 2/I is added to the denominator and 1/I is added to the numerator to avoid each indicator being 0 or 1. There are a number of methods for weighting and aggregation, and each method can give different priority rankings, but here we present the simplest and most common method.

130 However, the complex indicator method requires statistics for all the variables making

Strengthening Economic Development Planning and Infrastructure Funding for Mongolia up the priority criteria for quantitative analysis. As there is much room for improvement in Mongolia's statistical system producing economic and industrial data (UNECE, 2014), it could be difficult to measure all the fifteen criterion variables needed to calculate the SSIs and SIs for prioritization. Thus, the composite indicator methodology discussed in this section is suitable for an analysis of a limited scope as seen in the example of Di Tommaso et al. (2017) where industries are only in the US manufacturing sector with the strategic sector evaluation using only a limited number of variables. A more concise and comprehensive methodology is preferable to use a wide range of evaluation criteria including quantitative and qualitative variables across all industries.

4.3. A Suggestion for the Prioritization Methodology: Multi-Criteria Decision Analysis

For the issues among broad and comprehensive sectoral policies, effective communication, strategic judgment, and qualitative evaluation are more important than quantitative analysis of detailed costs and benefits. This approach assumes that if comprehensive policies are embodied in individual specific projects, then each project must undergo a feasibility analysis of costs and benefits. Regarding comprehensive sectoral policies, it is also difficult to perform a complete economic and social cost-benefit analysis due to time, resources, and data constraints. Therefore, for prioritizing comprehensive sectoral policies, theoretical models such as GIFF and product space theory, various indexing methods, and strategy-oriented approaches such as AHP (Analytic Hierarchy Process), SWOT (Strengths, Weaknesses, Opportunities, and Threats), PEST (Political, Economic, Socio-cultural, Technological), or any combination of those methods can be used. The Mongolian economy has unique characteristics such as small population size, wide territory and dispersed population, landlocked geography, abundant natural resources, and logistical difficulties. Therefore, this study proposes a technical methodology that applies selection criterion of target sectors to be developed in late- industrialized countries such as Korea. As one of the suitable analysis methods considering the scale and industrial structure of the Mongolian economy, this study proposes a simplified version of multi-criteria decision analysis for prioritization methodology (Marcelo et. al., 2016; Saaty, 2013). For high-level policy debates and communication with the general public, rather than detailed cost-benefit analysis, a comprehensive and concise methodology that is pragmatic and using a wide range of qualitative variables is suggested. The AHP method provides a comprehensive analytical tool that reaches decision-making by considering both quantitative and qualitative factors, based on not only rational but also intuitive judgment of decision makers or experts (Vaidya & Kumar, 2006). This method is proposed by Saaty 131 (1980) and refers to an analytical method that derives the relative importance of the various Chapter criteria of decision-making by combining two criteria (paired comparison). The scale of the 02

pairwise comparison is shown in

below. Policy Prioritization across Sectors

Scale Score of Paired Comparisons

Score Measuring Importance Definition

1 Equal importance

2 Weak or slight

3 Moderate importance

4 Moderate plus

5 Strong importance

6 Strong plus

7 Very strong importance

8 Very, very strong

9 Extreme importance

Source: Saaty (2008), Table 1, p.86.

[Figure 4-1] shows an example of analysis results that is derived from the pair comparison. For example, the relative importance of the components of policy prioritization criteria can be presented in weighted form. The relative importance of the elements constituting the priority criteria and the relative importance of the sectoral policies that are assessed on the basis of each element can be evaluated. Of course, all priority criteria items could be derived through a literature review on best practices including Korean cases and focus group interviews using the Delphi technique.

However, it is necessary to verify whether the pairwise comparisons by respondents are consistent. In general, when the consistency ratio is greater than 0.1, the twin comparisons are repeated and completed when the consistency ratio expectation is achieved.

[Figure 2-6] Basic Model for AHP Analysis (Example)

Sectoral Priority 1.00 1.00

132 Sub-Sectoral Priority Sub-Sectoral Priority 0.50 0.50

Strengthening Economic Development Planning and Infrastructure Funding for Mongolia 0.50 0.50

Criterion 1 Criterion 2 Criterion 1 Criterion 2 Criterion 3 0.50 0.50 0.50 0.30 0.20 0.25 0.25 0.25 0.15 0.10

Source: This figure was drawn by the author.

CR is the ratio of CI (Consistency Index) to RI (Random Index), and RI is given by Saaty (1980) as shown in

.

Values of RI

n 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15

RI 0 0 0.58 0.9 1.12 1.24 1.32 1.41 1.45 1.49 1.51 1.48 1.56 1.57 1.59

Source: Saaty (1980).

4.4. Pilot‌ Analysis for Establishing Evaluation Criteria and Their Application

This study attempts to establish evaluation criteria for prioritizing sectoral policies relevant to major industries or regions through AHP methodology. This analysis is for determining the relative importance of each element that constitutes an evaluation criteria system through each one-to-one comparison of all of the elements of the system (main criteria and sub-criteria).

This survey is also intended to be applied to the planning of sectoral policies that are currently being pursued by the Mongolian National Development Agency. Selected policies for pilot evaluation include policies on agricultural sector, tourism sector, mining and energy sector, light industry sector, heavy and petrochemical industry, etc.

4.4.1. Survey Overview and Methodology

The survey titled “Questionnaire for Establishing Criteria for Prioritizing Sectoral Policies and Applying Them to Actual Policy Planning in Mongolia” was divided into two parts, ‘Priority evaluation criteria system’ and ‘Pilot evaluation for selected policies.’ First, we derived the policy prioritization criteria by analyzing the importance or weight of the items that constitute the criteria system, and later applying the criteria to the actual sectoral policies to evaluate each sector’s priorities. In the ‘Priority evaluation criteria system’, the 133 prioritization criteria system comprising five sub-strategic sector indices (SIs) and three Chapter criterion variables (CVs) was established. In ‘Pilot evaluation for selected policies’, we assessed the priorities of five sectoral policies based on each of the five criteria.6 02 Policy Prioritization across Sectors

In this survey, 25 local experts of Mongolia responded. The distribution of experts according to their institutions is shown at

. For all the questionnaires, consistency indices (CI) were all within 10%, so all 25 questionnaires were valid for the analysis.

Composition of Survey Respondents

Institution Number of Respondents

Government Officials 10

Private Experts such as Professors and Researchers 8

Business or Banking Sector Experts 7

Total 25

Source: Survey Results.

The analysis of the AHP questionnaire consists of three stages. In the first stage, weights between five aspects of the main prioritization criteria were derived through a pairwise

6 The results of latter analysis “the pilot evaluation for selected policies” are presented in the appendix. comparison. In the second stage, weights between each of three criterion variables within an aspect were calculated through a pairwise comparison. Finally, in the third stage, weights between all the 15 criterion variables in the whole sectoral priority system were calculated by multiplying weights for each of the criterion variables obtained from the first and second stages. For the AHP questionnaire analysis, the statistical program ‘Expert Choice 11’ was used.

For AHP analysis, a hierarchy should be created between each alternative or item. The hierarchical structure of the inter-indicator relationship is based on the classification of the main and sub-categories.

4.4.2. Analysis‌ of the Priority Evaluation Criteria System: Analysis of the Main Criteria

As a result of the primary analysis of the importance of the five major criteria items, it is estimated that the economic aspect has the strongest importance.

134

Importance of Each Item in the Main Criteria for Prioritization Strengthening Economic Development Planning and Infrastructure Funding for Mongolia

Main Category Weight Rank

Economic Aspect 0.257 1

Regional Aspect 0.226 2

Social and Environmental Aspect 0.204 3

Resource Aspect 0.171 4

Technology Aspect 0.143 5

Note: Consistency index (C.I.) = 0.06. Source: Survey Results.

The analysis showed that the economic aspect (0.257) was the most important among the five major items, and the regional aspect (0.226) was the next most important item. On the other hand, technology aspect was 0.143, which was assessed as the least important. It is interesting to note that this reflects the characteristics of the early stage of the industrialization processes seen in Korea, Japan, and Taiwan.

4.4.3. Analysis of the Sub-Criteria and the Integrated Analysis

From the analysis of items in sub-criteria, we confirmed that ‘foreign market access and trade balance effects’ is the most important priority. The integrated analysis is based on the calculation with the weights of the first and second items.

Importance of Each Item in the Sub-criteria for Prioritization

Sub-Category Weight Rank

Foreign Market Access and Trade Balance Effects 0.134 1

Political Acceptance and 0.088 2 Legal, Institutional Validity

Regional Industry Linkage 0.088 2

Human Resources: Private Sector 0.077 4

Local Infrastructure 0.069 5

Domestic Market Demand 0.069 5

Technology Intensity and Technological Innovation 0.068 7

Domestic Value Chain 0.066 8

Social Impacts such as Equity Improvement 0.058 9

Environmental Impact 0.058 9 135 Chapter

Value-added of Products and Services 0.057 11 02 Corporate Environment 0.057 11 Policy Prioritization across Sectors

Natural Resources 0.048 13

Human Resources: Public Sector 0.045 14

Non-Technological Innovation 0.018 15

Note: Consistency index (C.I.) = 0.06. Source: Survey Results. Among the fifteen sub-criteria, “foreign market access and trade balance effects” (0.134) were the most important. The next important items were ‘political acceptance and legal, institutional validity’ and ‘regional industrial linkage’ (0.088). On the other hand, ‘non- technological innovation’ was 0.018, which was assessed as the least important. The results of the integrated analysis are shown in

.

Results of Integration Analysis: Priority Evaluation Criteria System

Main category Sub-Category Overall Rank Item Importance Item Importance Importance

Foreign market access and trade balance 0.521 0.134 1 effects Economic 0.257 Aspect Domestic value chain 0.256 0.066 8

Corporate environment 0.224 0.057 11

Regional industrial linkage 0.39 0.088 2 Regional 0.226 Local infrastructure 0.306 0.069 5 Aspect Domestic market demand 0.304 0.069 5 136 Political acceptance and legal, institutional Strengthening Economic Development Planning and Infrastructure Funding for Mongolia 0.431 0.088 2 validity Social and Environment 0.204 Social impacts such as equity improvement 0.287 0.058 9 Aspect Environmental impact 0.282 0.058 9

Human resources: Private sector 0.454 0.077 4 Resource 0.171 Natural resources 0.283 0.048 13 Aspect Human resources: Public sector 0.264 0.045 14

Technology intensity and technological 0.479 0.068 7 innovation Technology 0.143 Aspect Value-added of products and services 0.397 0.057 11

Non-technological innovation 0.124 0.018 15

Note: Consistency index (C.I.) = 0.06. Source: Survey Results. 5. ‌Conclusion: Implications from Korean Experiences and Policy Suggestions

This section discusses policy proposals, excluding the prioritization criteria discussed in Section 4, for the prioritization of sectoral policies.

5.1. Comparisons of Mongolian and Korean Institutions

Mongolian and Korean institutions for sectoral policies and prioritization methodology were compared and evaluated focusing on policy prioritization-related institutions.

The situation of the Korean economy at the beginning of industrialization was very pessimistic. The wounds and damages of the Korean War were severe and long-lasting, and natural resources were virtually non-existent. However, Korea was able to accomplish rapid industrialization by combining strong political leadership, efficient bureaucracy, enthusiastic entrepreneurship, and the zeal of education among the people. In particular, the establishment and prioritization of industrial policies through public-private sector 137 C hapte r 02 consultations, and the implementation of policy by maintaining consistent priorities are the benchmarking tasks for the Mongolian government to achieve mid- to long-term economic growth. In the case of Mongolia, quite a few industrial policies for the growth of specific Policy Prioritization across Sectors industries have been established, but the implementation of the policies by ensuring the adequacy of the policy contents and maintaining consistency of policy priorities for a long period has so far been ineffective.

Mongolia lacks purpose-oriented political leadership, a competent bureaucracy, and specialized public research institutes that the Korean government had in order to develop appropriate industrial policy packages and to implement effectively long-term plans by policy prioritization. Especially for successful implementation of sectoral policies by maintaining consistency of long-term policy priorities, Mongolia should pursue considerable autonomy of bureaucracy and policy coordination between ministries and agencies, referring to the Korean case.

5.2. Applicability‌ of Korean Experiences in Mongolia and Policy Suggestions

Some lessons for the Mongolian government for policy prioritization were derived from best practices including the Korean case. An integrated approach for policy prioritization that is appropriate for the Mongolian system of policy formulation and enforcement could be suggested reflecting the roles, authorities, and procedures of consultation and collaboration between agencies. Furthermore, institutional conditions and data availability for the application of methods such as economic models, analytical techniques, and prioritization criteria were identified and linked with suggestions to set up and improve relevant laws and institutions.

• Recommendations on Legal and Institutional Frameworks

Each ministry and local government are supposed to draft appropriate industrial policies as sectoral policies in Mongolia. The Ministry of Industry should play a major role in establishing industrial policies on a broad range of industries including manufacturing, but other ministries should also take charge of industrial policy formulation relevant to their jurisdictions. In order to allocate limited resources between sectoral policies, policy procedures need to be instituted for the Ministry of Finance, the National Development Agency, and finally for the Prime Minister's Office to collect and coordinate policy proposals from line ministries through consultation between government departments or the opinion

138 aggregation of experts or stakeholders. In such a process, the authority and responsibilities

Strengthening Economic Development Planning and Infrastructure Funding for Mongolia of each institution should be clarified. Policy coordination procedures should also be established and announced to coordinate policy conflicts and bridge blind spots. The criteria for prioritizing sectoral policies should also be established and institutionalized. In addition, the criteria for assessing the performance of policy enforcement should be established, and evaluation should be made at each stage and fed back to policy enforcement. Data for policy analysis and evaluation should be produced and made available. In the process of establishing and enforcing sectoral policies, the policy contents should be announced at each stage, and procedures for communication and consultation between the government and the private sector should be stipulated.

• Ensuring Time Consistency of Sectoral Policies and Their Priority

The most serious problem regarding sectoral policy priorities in the Mongolian government is that they are not consistent over time and are frequently changed and abandoned due to elections and government changes. To ameliorate these problems, the legal nature of mid- to long-term development plans should be strengthened through agreements between the administration and the National Assembly and by referring to the legal system of developed countries. The establishment of a new plan should include a clear action plan, including a concrete plan for domestic and foreign funding. Certain clear procedures required for revising or discarding the existing plans need to be instituted. In this regard, the necessity of further amendments to the 2015 Development Policy Act should Chapter02 Policy Prioritization across Sectors 139 Reinforcement of Sector Statistical Systems Establishment of Public Research Institutes Ensuring Effective and Legitimate Policy Instruments Ensuring Effective • • • Official statistics with relevance, accuracy, consistency, reliability, timeliness, and timeliness, and reliability, consistency, Official statistics with relevance, accuracy, This study suggests some improvements based on UNECE (2014) in relation to industrial A government-funded research institute with expertise in policy analysis is needed to is needed to analysis policy in expertise with institute government-funded research A Once Once priority is given to the target sectors, effective policy measuressuch as subsidies international comparability are key elements in establishing evidence-based sectoral sectoral elements in establishing evidence-based are key international comparability policies and prioritization. According to UNECE (2014), the national statistical system in this study revised. Therefore, be to needs Law Statistical the and improved to be is Mongolia that the data so systems statistical regional and of industry improvement the proposes and published according to global standards such on industries and regions are collected as the UN Fundamental Principles of Official Statistics (UN-FPs). To this end, the expertise and independence of the National Statistical Office of Mongolia (NSOM) and the choiceof technology information Equipping secured. be should sources data appropriate most the improve to important are also personnel professional training and recruiting and systems the statistical process. high-quality especially frameworks, sampling and Methodologies statistics. regional and for providers statistics NSOM. Administrative into must be built registers, business in errors prevent to platform IT common a use and develop should regions and industries establish and prioritize sectoral policies based on evidence and analysis. It is necessary to based on evidence and analysis. It is necessary to policies establish and prioritize sectoral assist in the establishment, execution, and evaluation establish a research institute that can referring to the policies by plans and sectoral of mid- and long-term economic development research institutes in Korea. examples of KDI and other government-affiliated and tax reduction should be secured. As international trade norms are strengthened and are strengthened and norms trade should be secured. As international and tax reduction emphasized, sector in economic development is function and the private the role of market means of support. from direct means to indirect should be transformed policy instruments be reviewed. In addition, there should be a consensus on the need for the consistency of of for the consistency on the need should be a consensus In addition, there be reviewed. ministries among ongoing communication priorities through policies and their sectoral executive between the and local governments, between central administration, within the and between civil society and the people. and the parliament, data processing and to collect data directly without aggregating the primary data at each level of local governments’ hierarchy. The industrial census, which is conducted every five years, should be expanded to include companies from legal corporations to unincorporated companies, and individual entrepreneurs. Sample surveys carried out between the years of the industrial census should be improved to identify all economic activities through rotating samples. Monthly, quarterly, and annual statistics on production and trade statistics should be appropriately aggregated on a discrete basis rather than a cumulative basis. Industrial statistics, which are concentrated in the agricultural and livestock industry, should also adjust the sample frame to reflect changes in industrial structure. It should clearly distinguish between data collection for administrative purposes and statistical purposes. The NDA shall periodically prepare and interpret statistics related to the mid- to long- term development plans, and the Ministry of Industry and other line ministries, and local governments are to publish a statistics policy report on the industrial and regional policies of their respective jurisdiction.

• Initiative Political Leadership for Economic Development 140

Strengthening Economic Development Planning and Infrastructure Funding for Mongolia The role of political leadership, including top policymakers, is essential for the established sectoral policies to be driven on a consistent roadmap based on priorities. In the 1960s and 1970s, the Presidential Export Promotion Council was held every month in Korea. In order to establish a mid- to long-term development plan, to prioritize sectoral policies, and to allocate resources accordingly, and to hit the balance of two development agencies of the Ministry of Finance, focusing on fiscal soundness and short-term economic stabilization, and the National Development Agency, maintaining a long-horizon and strategic viewpoint, the president and prime minister and other top policymakers should show their interest and exercise leadership on development planning and implementation with adequate and consistent policy priorities. References

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‌Implementation of the Hierarchical Structure for AHP and Pilot Application of Priority Criteria

1. Hierarchical Structure for AHP

The hierarchical structure of the AHP questionnaire of the 'Priority evaluation criteria system' is shown in the following table.

Survey Hierarchy of the Priority Evaluation Criteria System

Main Criteria Sub-Criteria

Value-added of products and services

Technology Aspect Technology intensity and technological innovation 144

Strengthening Economic Development Planning and Infrastructure Funding for Mongolia Non-technological innovation

Human resources: Private sector

Resource Aspect Human resources: Public sector

Natural resources

Domestic value chain

Economic Aspect Corporate environment

Foreign market access and trade balance effects

Political acceptance and legal, institutional validity

Social and Environment Aspect Social impacts such as equity improvement

Environment impact

Local infrastructure

Regional Aspect Regional industrial linkage

Domestic market demand

The part of “Pilot evaluation for selected policies” evaluated the priority among the five sectoral policies including agricultural, tourism, mining and energy, light industry, and heavy and petrochemical industries is based on each of the five aspects of the main prioritization criteria. The hierarchy of the questionnaire is shown in the table below. Survey Hierarchy of Pilot Evaluation for Selected Policies

Main Criteria Sectors

Agricultural sector

Tourism sector

Technology Aspect Mining and energy sector

Light industry sector

Heavy and petrochemical industry sector

Agricultural sector

Tourism sector

Resource Aspect Mining and energy sector

Light industry sector

Heavy and petrochemical industry sector

Agricultural sector

Tourism sector 145 Economic Aspect Mining and energy sector Chapter

Light industry sector 02 Heavy and petrochemical industry sector Policy Prioritization across Sectors

Agricultural sector

Tourism sector

Social and Environment Aspect Mining and energy sector

Light industry sector

Heavy and petrochemical industry sector

Agricultural sector

Tourism sector

Regional Aspect Mining and energy sector

Light industry sector

Heavy and petrochemical industry sector 2. Pilot Evaluation for Selected Policies

Based on each priority criterion, a pilot evaluation of the five sector policy cases was conducted.

2.1. Technology Aspect

As a result of analyzing the priority among the five sectors based on the technical aspect, it is confirmed that the ‘light industry sector’ has the highest priority.

Priority Analysis Results by Sector: Technology Aspect

Sector Weight Rank

Light Industry Sector 0.282 1

Heavy and Petrochemical Industry Sector 0.236 2

Agricultural Sector 0.183 3

Mining and Energy Sector 0.173 4 146

Strengthening Economic Development Planning and Infrastructure Funding for Mongolia Tourism Sector 0.125 5

Note: Consistency index (C.I.) = 0.05.

Among the five sectors, the light industry sector (0.282) was the most important, followed by the heavy and petrochemical industry sector (0.236), and the tourism sector turned out to be the lowest. Mongolian experts emphasize the importance of export and international balance improvement, which can be the driving force of further economic growth, and prefer a gradual approach from light industry, in which Mongolia might be able to secure international competitiveness easily, and then transfer to the heavy and petrochemical industry. 2.2. Resource Aspect

As a result of analyzing the importance of priority among the five sectors based on the resource aspect, it was confirmed that ‘agricultural sector’ has the highest priority.

Priority Analysis Results by Sector: Resource Aspect

Sector Weight Rank

Agricultural Sector 0.283 1

Light Industry Sector 0.220 2

Heavy and Petrochemical Industry Sector 0.198 3

Mining and Energy Sector 0.156 4

Tourism Sector 0.143 5

Note: Consistency index (C.I.) = 0.04.

Among the five sectors, the agricultural sector (0.283) was the most important, followed 147 by the light sector (0.220), and the tourism sector was the lowest. Regarding the resource Chapter aspect, Mongolian experts give priority to agriculture and light industry by emphasizing the geographical merits or traditional industries among resources. It is not clear why the 02 Policy Prioritization across Sectors importance of mining and energy is undervalued, but it is presumed that it had already begun to develop.

2.3. Economic Aspect

As a result of analyzing the priority importance of the five sectors based on the economic aspect, it is confirmed that the “heavy and petrochemical industry sector” has the highest priority.

Priority Analysis Results by Sector: Economic Aspect

Sector Weight Rank

Heavy and Petrochemical Industry Sector 0.230 1

Mining and Energy Sector 0.212 2

Light Industry Sector 0.212 2

Agricultural Sector 0.206 4

Tourism Sector 0.140 5

Note: Consistency index (C.I) = 0.02. As a result of the analysis, the heavy and petrochemical industry sector (0.230) was the most important among the five sectors, followed by the mining and energy sector and the light industry sector (0.212). The lowest ranking was again given to the tourism sector. Mongolian experts are particularly concerned about the industrial linkage in determining priorities from the economic aspect. As a result, priority seems to have been given to the heavy and chemical industries that are linked to the development of natural resources such as minerals and can lead to sustainable growth in the future.

2.4. Social and Environmental Aspect

As a result of analyzing the priority importance of the five sectors in terms of the social and environmental aspect, it was confirmed that the ‘agricultural sector’ has the highest priority.

The results of the analysis showed that the importance of the agricultural sector (0.270) was the highest among the five sectors, followed by the light industry sector (0.258), and the mining and energy sector was ranked as the lowest. Mongolian experts emphasize support 148

Strengthening Economic Development Planning and Infrastructure Funding for Mongolia for balanced local development, inter-regional equity, environment friendliness, and income distribution through job creation in order to prioritize the social and environmental aspects. Therefore, agriculture and light industry are assessed as important.

Priority Analysis Results by Sector: Social and Environmental Aspect

Sector Weight Rank

Agricultural Sector 0.270 1

Light Industry Sector 0.258 2

Heavy and Petrochemical Industry Sector 0.184 3

Tourism Sector 0.160 4

Mining and Energy Sector 0.127 5

Note: Consistency index (C.I.) = 0.01. 2.5. Regional Aspect

As a result of analyzing the significance between the five sectors in the regional aspect, it is confirmed that the ‘heavy and petrochemical industry sector’ has the highest priority.

Priority Analysis Results by Sector: Social and Environmental Aspect

Sector Weight Rank

Heavy and Petrochemical Industry Sector 0.230 1

Agricultural Sector 0.224 2

Light Industry Sector 0.222 3

Mining and energy Sector 0.173 4

Tourism Sector 0.152 5

Note: Consistency index (C.I.) = 0.01.

As a result of the analysis, the heavy and petrochemical industry sector (0.230) was the most important among the five sectors. The next most important sector was analyzed as the 149 Chapter agricultural sector (0.224), and the tourism sector had the lowest credit. Mongolian experts

placed importance on the industrial agglomeration and integrated supply chains, which 02 are influenced by the regional infrastructure in order to prioritize them from the regional Policy Prioritization across Sectors aspects. For that reason, it can be interpreted as the reason for giving a high score to the heavy and chemical industry. 03 Chapter

Integrative Strategy of Planning and Budgeting

150 Changyong Choi (KDI School of Public Policy and Management)

Strengthening Economic Development Planning and Infrastructure Funding for Mongolia Sukhdelger Sosorbaram (Ministry of Finance)

1. Introduction 2. An Overview of the Mongolian Economic Situation and Development Plans 3. Why Integration of Planning and Budgeting Matters? 4. Key Findings from the Survey 5. Policy Recommendations

Keywords Governance, Integration of Planning and Budgeting, Medium Term Expenditure Framework (MTEF), Performance-based Budgeting, Capacity Building Integrative Strategy of Planning and Budgeting

Changyong Choi (KDI School of Public Policy and Management) Sukhdelger Sosorbaram (Ministry of Finance)

Summary

This chapter of the KSP Project (2018/19) for the Mongolian government conducts joint research and consultation on the efficiency and effectiveness of budget execution based on the integration of planning and budget systems. Specifically, this project mainly focuses on budget planning and the efficient execution of: 1) institutional frameworks for effective 151 Chapter linkages between the Finance Ministry and other line ministries, 2) the division of roles for collaborative systems among the related organizations, 3) and their organizational and staff 03 capacity specifically for those who are in charge of policy design and coordination. Integrative Strategy of Planning and Budgeting

In order to conduct this project, the consultation team closely worked together, ranging from a literature review covering various cases both from developed and developing countries. On top of this, surveys and in-depth interviews were used to evaluate and diagnose the existing capacity of government officials and related personnel in charge of planning and executing a budget. In particular, included are experiences with the trials and errors of related systems such as self-evaluation systems, in-depth evaluation systems, and core project evaluation systems implemented in Korea to share with the Mongolian government. With input from the local consultant, this project also analyzes core functions and division of roles of the Mongolian government’s budget and planning offices, and examines national economic and social development strategies. In order to make more feasible policy recommendations, the present KSP project will conducts in-depth interviews with the managers and staff of finance-related organizations. Key findings and policy recommendations are described below.

From a good governance perspective, the integrated management of planning and budgets has several objectives: First, the process of reaching an agreement among policymakers on national development has a very important learning effect in itself. This is because it is possible to share what needs to be considered before budgeting, discussing prioritization for national development, the level and ways of resource allocation, and the expected policy outcomes. This ‘collective process’ prevents improper budget spending and allows government expenditures in more productive sectors. Second, democratic decision-making can be learned by facilitating the participation of stakeholders and policymakers (planning and executive departments) in each phase of planning and implementing government policies. A problem facing many developing countries is a lack of resources, but a more fundamental problem is the lack of planning capabilities to mobilize available resources more efficiently and effectively. In the course of policy coordination that surrounds planning and budget allocation, policy participants learn competition, compromise, and coordination for better resource allocation.

The link between planning and budgeting functions has also two main implications. First, there are advantages in minimizing budget waste and achieving the expected national development goals more effectively by setting up the budget size and sectoral spending plans in advance. Second, it is useful to overcome the limitations of a single-year budgeting 152 system with an annual national development plan, and to predict fiscal spending needs

Strengthening Economic Development Planning and Infrastructure Funding for Mongolia with a longer-term perspective. By proactively linking mid- and long-term planning with budget demand, the government can present a vision of more feasible mid- and long- term national development. Furthermore, the sustainability and predictability of short- term, medium, and long-term development plans can also be increased. In addition, it is allowed to quantitatively evaluate the achievement of policy objectives by period, and modify and supplement the mid- and long-term development plans based on more objective performance evaluation by time period. It can be said that the Medium Term Expenditure Framework (MTEF) is to establish a virtuous structure between planning and budgets. Rather than proposing actual MTEF application in consideration of the Mongolian government's current planning and budget capabilities, this study proposes reasons that the linkage between planning and budget is important, what institutional and human capabilities are required to operate such a system of linkages, and what educational and training programs are needed to strengthen such capabilities.

Mongolia is in the process of gradually moving toward an output-based budgeting system. Reforms on introducing programme budgeting started over two decades ago. By 2010, the country had piloted new processes and templates to inform budget decision- makers on key performance indicators (KPI) by agencies and sectors. The process did not turn into a full-fledged programme-based budgeting, however, the formulation of KPIs is still in use and the parliament receives those at every budget cycle as part of the Annex 1 of the Budget Law. At the same time, the budget management information system also contains an expenditure classification that is called a “programme classification”. However, there are still significant challenges in the application of an effective programme-based budgeting system both in its format and content. Format-wise, the KPIs presented to the parliament are not easy to bridge with budget appropriations. The programme classification applied by the MOF does not always match with what line ministries use as their sector programmes. Therefore, the current format of the budget documentation does not effectively inform budget decision-makers on programmes, sub-programmes, their objectives, KPIs, and allocated resources. Content-wise, budgeting in line ministries still needs to apply more programme-based principles of budget construction, including on bridging policies and budgets via the application of various analytical tools. In no country has such reform taken place smoothly and Mongolia is not an exception.

In order to integrate planning and budgeting, legal and institutional support should also be present. To this end, the Mongolian government needs to 1) strengthen the comprehensive policy planning system for development with policy stability or consistency, 2) link the rights and responsibilities of budget management to budget expenditure systems, 153 and 3) expand enhanced flexibility and the continuity of short-term, medium, and long- Chapter term planning for national development. The ultimate goal of the economic development 03

plan is not to make the plan itself. A more systematic development plan can be used to set Integrative Strategy of Planning and Budgeting the purpose and direction of budget spending in advance, prevent redundant spending with limited resources, and ultimately increase the effectiveness of budget spending.

The establishment of a system linking planning and budgets has two implications in itself. First, in the course of discussing economic development plans, policymakers will consider optimal alternatives for national development. In the process of discussing how to put limited resources into which sectors, policymakers will share their vision and direction for national development. Second, while recognizing the importance of planning and budgets, national development strategies can be improved from the level of short-term ‘investment plans’ to the level of ‘comprehensive development strategies’. In this process, national funds that could have been injected into a particular sector for a shortsighted plan can be readjusted at a more comprehensive and macro level, thereby preventing waste and distortion of resource input. In addition, unbalanced development by industry and region for political purposes can be overcome.

In addition to establishing legislation to facilitate planning and budget linkages, it also provides specific capacity-building programs for relevant ministries, especially the MoF, NDA and other planning departments. The basic purpose of capacity building is to achieve the mission that an organization should perform as efficiently and effectively as possible, while minimizing the gap between the ‘expected capacity’ and ‘existing capacity’ of the organization. The lack of capacity in public organizations in developing countries is cited by the fact that they are not properly supplied with the manpower required to execute their official duties due to low levels of education. In addition, even if there is a well- qualified workforce, these high-quality personnel will want to be employed by international organizations or the private sector with much higher salaries. International organizations/ the private sector and the government are competing to attract high-end workers, and in many cases the public sector suffers from a shortage of highly qualified workers. Another challenging issue is the absence of proper re-education and training after joining the public sector. The change in the policy environment requires officials in charge to adapt to the new era and develop more creative policies. Nevertheless, if proper educational institutions and training programs are not provided, civil servants will be unable to respond to new policy demands while being satisfied with their daily work performance. This leads to a decline in trust in the government and public officials and a vicious circle in which motivation to join the public sector is weak. The third issue is how to overcome low levels of incentives 154 or enthusiasm for education and self-development. Adding to the lack of expertise, Strengthening Economic Development Planning and Infrastructure Funding for Mongolia job insecurity and a lack of policy continuity due to political situations are factors that undermine the motivation for individual government employees to self-develop.

1. Introduction

Planning, expenditure management, and performance evaluation of 'budgets' as a main means of implementing national policy is an important area of public management. In particular, efficient budget execution and management can be a critical task for sustainable development, especially in developing countries where human and physical resources are scarce and where national management systems are vulerable.

‘Public finance’, which is the basis of a budget, means any economic activity in which the government procures, manages, and spends money for public needs. Public finance must be put in place to maintain the government and policies operated by the government can be implemented. Thus, public finance is a ‘numerical policy’, and is a blueprint for State administration that embodies the government's policies.1 Public finance produces non- market services that the private or the market cannot provide or lacks incentives to do, and it functions to redistribute income and wealth. In other words, to overcome the distortion

1 Gook, 2015: pp. 40-41. of the distribution of goods and services due to market failure, the government is increasing the efficiency of resource utilization by intervening in the market and the economy, which is expected to enhancing equity for the whole society.

There are two principle means of government activities, budget and regulations. While a regulation is an invisible and institutional tool for the government, the budget functions as a means to mobilize and allocate visible resources. However, due to resource constraints, it is critical at national level to set up policy priorities. In particular, it is important to identify and make decisions on which area, why, and how much resources will be injected, precisely because it is critical to determine how national resources allocated more efficiently in order to improve policy effectiveness.

In this regard, it is notable to construct integrated systems of planning and budgeting through integrated organizational and institutional frameworks on finance and budget ministries and other line ministries, in terms of the identification of policy priorities and policy coordination.

155

In particular, it is difficult for developing countries to achieve policy effectiveness due Chapter to their lack of resources such as financial resources and human capacity to implement government policies. In addition, most underdeveloped countries face challenges on 03 Integrative Strategy of Planning and Budgeting responsibilities, transparency, and accountability. Because governance is weak, the problem of the efficiency of an administration is also exposed. Therefore, increasing the linkage between the planning of the policy and the budget process is a very important task for 1) identifying the priority of a national policy, 2) improving the efficiency of policy resource input, and 3) improving the effectiveness of the policy. In light of the importance of planning and budgeting, many developing countries are trying various ways to improve the linkage between planning and budget, and have been implementing a program for the institutionalization for strengthening the planning-budget linkage and strengthening the capacity of related ministries.

In this backdrop, the present KSP policy advisory service will conduct joint research and consultations on the efficiency and effectiveness of budget execution based on the integration of planning and budgeting. Specifically, this project mainly focuses on budget planning and the efficient execution of 1) institutional frameworks for effective linkage between the Finance Ministry and other line ministries, 2) the division of roles for collaborative systems among the related organizations, 3) and their organizational and in- staff capacity specifically for policy design and coordination. This KSP project aims to identify basic conditions and capabilities needed to effectively execute the integrated system of planning and budgeting for the Mongolian government, in particular for the Ministry of Finance and other concerned ministries, agencies, and organizations responsible for the implementation of national development strategies. In order to conduct policy consultation in accordance with the purpose, this study will focus on the following four tasks: first, to promote an understanding of the subject in the decision-making process and planning and budgeting processes including policy networks among policymakers and bureaucrats; second, to summarize planning and budgeting processes by describing various approaches and theories about the budget process, and suggest alternatives that best fit into the situation of the Government of Mongolia; third, the planning and budgeting mechanisms commonly used in developed countries, especially the integration of planning and budgeting in order to find out alternatives based on lessons learned from those developed countries with exposed problems and limitations that can be applied to developing countries of budget consolidation mode; and fourth, since it is necessary to construct an integrated system of budget planning and execution along with collaborative system and human resource management and development. 156

Strengthening Economic Development Planning and Infrastructure Funding for Mongolia In order to conduct this project, the consultation team worked closely together on tasks including a literature review covering various cases both from the developed and developing countries. On top of this, surveys and in-depth interviews were carried out to evaluate and diagnose the existing capacity for government officials and related personnel in charge of the planning and execution of budgets. In particular, the experiences of trial and errors of related systems such as self-evaluation systems, in-depth evaluation systems, and core project evaluation systems implemented in Korea have been included to share with the Mongolian government. With input from the local consultant, this project also analyzes the core functions and division of roles of the Mongolian government’s budget and planning offices, and examines national economic and social development strategies. In order to make more feasible policy recommendations, the present KSP project will conduct in-depth interviews with the managers and staff of the finance-related organizations.

2. An Overview of the Mongolian Economic Situation and Development Plans

2.1. Economic Situation

Mongolia is the second largest landlocked country in the world and it is located in East Central Asia bordering Russia and China. With 1.5 million square kilometers of territory, Mongolia is home to only 3.2 million people and it is the most sparsely populated country in the world. Mongolia has rich mineral resources dispersed throughout the country. Mongolia is ranked 8th in the world in terms of copper resources and has one of the biggest coal resources in Asia.

The economy of Mongolia is not that diversified and is traditionally based on herding and the agricultural sector. However, in recent years, having opened its mining sector to private and foreign investors, mining has started to play a critical role in the economy of the country. Being landlocked and having a rather weakly diversified economy and low growth potential for the rural economy, Mongolia sees its rich mineral resource as a key gateway to better development. Thus, since its open policy on mining from the early 2000s, economic indicators in Mongolia have registered substantial increases. GDP increased seven times, exports increased five times, and foreign investment increased more than 15 times compared to early 2000 (Bulletin of Statistics 2000; Bulletin of Statistics 2012). Mining's contribution to GDP reached more than 30 percent, and it composes 90 percent of total exports and 30 percent of the State budget (Bulletin of Statistics 2012). 157 Chapter

[Figure 3-1] Gross Domestic Product and its Increase

(Unit: Trillion MNT) 03 Integrative Strategy of Planning and Budgeting 40 20 17.3 35.3 18 35 32 16 30 27.8 12.3 23.9 14 11.6 23.1 25 22.2 12 19.1 10 20 16.6 7.9 8.0 7.1 8 15 13.1 6.4 5.3 9.7 6 10 2.4 4

5 1.2 2

0 0 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019

GDP nominal/trillon MNT GDP Growth

Source: National Statistics Office of Mongolia, Ministry of Finance.

GDP growth accelerated to a record 17.3 percent in 2011, making Mongolia one of the fastest-growing countries in the world. Average economic growth since 2010 has been approximately 8.5 percent per year, making Mongolia one of the world’s fastest-growing economies (National Statistics Office, 2017; The World Bank, 2018).

While Mongolia’s economy witnessed high growth rates, poverty records showed only slight changes. Between 2002 and 2010 poverty increased by approximately three units despite the increasing growth of the economy. The estimated poverty rate in 2016 was 29.6 percent, meaning more than one in four people are poor (National Statistics Office, 2018a).

Meanwhile, Mongolia, being a developing nation, receives a significant amount of aid from donor countries and agencies (Blunt, 2014). In 2016, net official development assistance (ODA) from DAC countries totaled $325.5 million USD, equivalent to 3.2 percent of the Gross National Income (GNI) (OECD, 2017). Development Assistance (ODA) from OECD countries is increasing substantially and reached around $1.7 billion USD (OECD, 2017).

Evidence shows that even though Mongolia increased its financial resources so that public expenditures substantially, the national development indicators such as poverty level and HDI are still not at sufficient levels. One of the main reasons for the insufficient outcome is poor integrity between budgeting and policy planning. There are significant gaps that need to be addressed to strengthen coherence in policy planning and budgeting. These coherence gaps cause low allocation efficiency in the capital budget and compromising efficiency in

158 public spending and the government’s ability to achieve its policy objectives. Successful

Strengthening Economic Development Planning and Infrastructure Funding for Mongolia achievements for development will require that planning and budgeting processes are united and results-based. Additionally, the coordinated resource mobilization of the private sector and development partners plays an important role.

[Figure 3-2] Budget Revenue and Expenditures (Unit: Trillion MNT)

14.0 11.6 12.0 9.5 9.7 10.0 9.0

8.0 7.1 7.1 6.0 6.2 6.0 5.0

4.0 3.1

2.0

0.0 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019

Total Budget Revenue and grant Total Budget Expenditure and loan

Source: National Statistics Office of Mongolia, Ministry of Finance. [Figure 3-3] Poverty and HDI (Unit:%)

45 0.78

40 0.76

35 0.74 30 0.72 25 0.7 20 0.68 15 0.66 10

5 0.64

0 0.62 2000 2005 2010 2015 2016 2017

Poverty level 35.2 38.7 38.8 33.7 27.4 21.6 29.6

HDI 0.667 0.712 0.756 0.736 0.733 0.734

Source: National Statistics Office of Mongolia, Ministry of Finance.

2.2. The Law on Development Policy Planning 159

A fundamental constraint to policy coherence is that sector strategies are poorly costed Chapter and not adequately linked neither to the medium-term expenditure framework nor to the 03 annual budget. There are multiple causes that contribute to incoherence such as weak Integrative Strategy of Planning and Budgeting administrative capacity, the lack of human resources, and traditional budget planning practice in the public sector. In order to improve its performance, the government should consider developing an integrated and cross-sectoral strategy for resource mobilization, including clarifying the roles and procedures for government ministries and agencies in the policy planning and budgeting process.

As indicated in the Constitution of Mongolia, the Parliament of Mongolia is responsible for the approval of each year’s fiscal law based on each year’s Social Economic Guidelines for Mongolia.

Article 25 on the Constitution:

7) ‌to define the State’s financial, credit, tax and monetary policies; to lay down the guidelines for the country’s economic and social development; to approve the Government’s program of action, the State budget and the report on its execution. Article 38 on the Constitution:

2) ‌The Government is to work out a comprehensive policy on science and technology, guidelines for economic and social development, the State budget, credit and fiscal plans, to submit these to the National Parliament, and to execute decisions taken thereon.

[Figure 3-4] Policy Framework before Law on Development Policy Planning

160 Strengthening Economic Development Planning and Infrastructure Funding for Mongolia

Source: Ministry of Finance, Mongolia.

Even before the establishment of the Development Policy Planning, the Mongolian government, with the support of the international community, established regional, sectoral, and national development plans, respectively, and prepared a metric-type development strategy that was linked to the short, medium, and long term, depending on time as shown in [Figure 3-4]. However, this development plan exposed several problems. For example, a development plan focused on the regional and sectoral levels should have been linked to the national overall development plan, but inconsistencies arose in budget expenditure plans among the three different dimensions, the national-seectoral-regional levels. In addition, the tax revenue estimations and fiscal projections that correspond to the size of the budget expenditure required for social and economic development during the fiscal plan at the national level were insufficient.

Above all, serious problems arose from the separation of planning and budget functions. The separation of planning and budget functions has reduced the sustainability of policies and the predictability of policy implementation and effectiveness. This made it difficult for an objective assessment of the policy process, which consists of the planning, implementation, and evaluation of policies. Precisely because of the separation, the responsibilities and authority of ministries and officials in charge of planning and budget affairs were unclear as the provisions on the principles of policy planning and budgeting were vague. In addition, policy communication and coordination functions were weak due to the separation of the planning and budget ministries resulting in a waste of resources such as excessive or unnecessary resource input on policies and overlapped investments in similar projects. Policy distortions have occurred in accordance with political intentions and have resulted in a lack of mid- and long-term strategies for national development.

[Figure 3-5] After Law on Development Policy Planning

NATIONAL LEVEL SECTOR LEVEL LOCAL LEVEL

L O SUSTAINABLE DEVELOPMENT VISION N G (15-20 years) 161 Chapter

REGIONAL DEVELOPMENT MEDIUM TERM STATE POLICY POLICY 03 (8-10 years) REGIONAL DEVELOPMENT Integrative Strategy of Planning and Budgeting M OBJECTIVE E D I U GOVERNMENT ACTION PLAN GOVERNOR ACTION M PLAN NATIONAL PUBLIC MID-TERM BUDGET EXPENDITURE SUB PROGRAMME INVESTMENT PLAN PROGRAMMME

ANNUAL BUDGET LAW ANNUAL LOCAL BUDGET S H O ANNUAL MONETARY POLICY GUIDELINE LOCAL SOCIO-ECONOMIC R DEVELOPMENT T GUIDELINE ANNUAL SOCIO-ECONOMIC DEVELOPMENT GUIDELINE

Source: The Ministry of Finance, Mongolia.

The Government of Mongolia developed and passed a new Budget Law on 23 December 2011 in order to improve the legal framework for budgeting, budget relations and fiscal management by integrating the Budget Law of 2002 and Public Sector Management and Finance Law. The purpose of a new Budget Law was to ensure fiscal stability, enhance the efficiency and predictability of resource allocation, and to increase citizens’ participation in the budgeting process. The fundamental purpose of the Budget Law was to establish principles, systems, the composition and classification of the budget; to implement special fiscal requirements; to define authorities, roles, and responsibilities of bodies that participate in the budget process; and to regulate relations that arise in connection with budget preparation, budget approval, spending, accounting, reporting, and auditing. The legislation on the budget system of Mongolia consists of the Constitution of Mongolia and the Fiscal Stability Law.

Then the Law on Development Policy Planning (Figure 3-5) was approved in 2015 with the purpose of determining stages of planning, implementation, monitoring, and evaluation of the development policy of Mongolia, to set out guiding principles, to outline rights, duties, and responsibilities of the engaged parties and to build up a unified development policy planning system. Legislation on development policy planning consists of the Constitution of Mongolia, the Law on the Government of Mongolia, and the Law on the Budget. The Law on Development policy planning regulates relations that arise in connection with drafting, approval, implementation, monitoring and evaluation, reporting, and publishing of the development policy documents and managing development policy planning.

162 In order to integrate policy planning and budgeting, the Government of Mongolia

Strengthening Economic Development Planning and Infrastructure Funding for Mongolia decided to amend the time schedule of the policy planning process and the approval of short-term development plans. The yearly Social Economic Guidelines of Mongolia was used to be approved in the autumn by the Parliament with the Annual Fiscal Law, but since 2010 it has been legislated to be approved in the spring before the approval of the Annual Fiscal Law.

The Annual Fiscal Law should be based on the Social Economic Guidelines of Mongolia and cover the following:

• Consolidate the monitoring and evaluation report of the SDG2030 every two years, and submit them to the Cabinet, and introduce them to the Parliament. • Develop and formulate cross-sectoral development policy together with line ministers. • Give permission on the submission of policy proposals to the Cabinet of Mongolia for approval. • Formulate every year’s Social Economic Guidelines of Mongolia and submit to the Parliament of Mongolia for approval via the Cabinet. • Consolidate the monitoring and evaluation report of every year’s Social Economic Guidelines of Mongolia, and submit them to the Cabinet, and introduce them to the Parliament /89Regulation/. The timeline of every year’s Social Economic Guidelines and the fiscal law’s formulating and proving process.

Currently, there are around 170 valid long and medium-term development papers, which were approved before the Law on Development policy planning. Since the enforcement of the Law on Development policy planning, around 45 medium and short-term development policy papers have been approved and are now under implementation.

As enacted in the Law on Development policy planning, the Parliament of Mongolia approved Mongolia’s national development long-term policy as it did the Sustainable Development Vision-2030 in 2016. The Sustainable Development Vision aspires to achieve middle-income country status for Mongolia, and a stable and diversified economy while ensuring environmental balance and strengthening democratic governance. Within this aim, Mongolia ambitiously announced that it would end poverty in all its forms by 2030.

According to the Law on Development policy planning, all medium and short-term policy documents should be based on long-term policy such as The Sustainable Development 163

Vision-2030 and the Ministry of Finance undertakes the responsibility to ensure the Chapter coherency and consistency of long, medium, and short-term development policy as well as sectoral and cross-sectoral development policy. 03 Integrative Strategy of Planning and Budgeting

The fundamental priority role of the Ministry of Finance of Mongolia is to:

• Strengthen the capacity of financial and fiscal management, and improve its structural and functional process; • Regulate the financial sector’s coordination and its structural change; • Coordinate and regulate, as well as deliver a policy on finance, budget, tax, customs, investment, and insurance, harmonizing with national development vision, strategy, policy, and goals; • Coordinate, implement, and monitor the projects and programs financed by donor countries and international organizations, and improve the efficiency of official development assistance through strengthening domestic and foreign debt management; • Coordinate and deliver accurate policy on accountant and auditing; • Coordinate and organize National Treasury activities; • Coordinate and regulate internal financial audits; • Coordinate, regulate, and monitor public procurements; • Ensure efficiency of leadership of public administration and human resource capacity through adopting the effective leadership program, planning approach, reporting, and accountability methods; • Ensure national financial and fiscal security, and deliver consultation on national financial security matters with ministers and the Cabinet; • Ensure cooperation and collaboration with line ministries on the implementation of financial policy and goals indicated in the Government Action Plan, national priority and policy; and regulate and deliver consultations on financial and budgeting planning to line ministries.

[Figure 3-6] Structure of the Ministry of Finance

VICE MINISTER OF COUNCIL OF MINISTRIES MINISTER OF FINANCE FINANCE

CUSTOMS GENERAL TAXATION GENERAL STATE SECRETARY ADMINISTRATION ADMINISTRATION

164 PUBLIC FINANCIAL FISCAL ECONOMIC LEGAL AND ACCOUNTING ECONOMIC PUBLIC DEVELOPMENT ADMINISTRA- MONITORING

Strengthening Economic Development Planning and Infrastructure Funding for Mongolia POLICY AND TREASURY POLICY PROCUREMENT POLICY POLICY INVESTMENT FINANCING TION AND AND RISK PLANNING DEPARTMENT DEPARTMENT DEPARTMENT DEPARTMENT DEPARTMENT DEPARTMENT DEPARTMENT MANAGEMENT MANAGEMENT DEPARTMENT DEPARTMENT DEPARTMENT

◈ Fiscal Revenue ◈ Macroecono ◈ Law and ◈ Financial ◈ Loan and ◈ Financing ◈ Payment and ◈ Internal Audit Division Mic Policy Procurement Market and Aid policy Division Accounting and Evaluation ◈ Fiscal Division Division Insurance Division ◈ Financing Division Division Expenditure ◈ Development Division Information ◈ Financing ◈ Financial Division Policy and ◈ Debt Technology Reporting and Monitoring ◈ Fiscal Planning division Management Division Accounting and Evaluation Consolidation Division Division Division Division ◈ Capital asset Management Division

Source: Ministry of Finance, Mongolia.

3. Why Integration of Planning and Budgeting Matters?

3.1. Overview: Theoretic Foundations

Discussions on financial reform and governance reform have been proceeding very actively in the public administration. In particular, the so-called ‘new pubilc management’ had emerged in earnest in the mid-1990s and the concept ‘new public management’ (NPM) dominated the field. The concept NPM has attracted attention as a new paradigm for government innovation.2 Overcoming inefficiency and bureaucracy in the public sector, and the introduction of enhanced and competition of market efficiency which is expected to prevent budget waste put into place more appropriate resources, being able to increase the effectiveness of public policy by improving the quality of services and policies output. The new public management approach that is being advocated is considered to have made a certain contribution to the public sector and government reform discussions. Nevertheless, as national circumstances and policy demand differ, the NPM approach faces criticism in that the bureaucratic nature and institutional backgrounds are heterogeneous depending on each country’s policy environment.3 In this regard, this project emphasizes the importance of policy planning and policy priorities in the selection process of planning-budgeting budget integration and collaborative government reorganization, for instance, the establishment or reconstruction of the planning and finance authorities in charge of budget and strategic planning.

However, in order to succeed in linking this policy planning and budgeting, the government has to be reconstructed.4 First, a cooperative government overcomes the conflict between ministries and raises the rationality of budget allocation for the execution 165 of policies between relevant ministries based on the consent of policy priorities. In addition, Chapter for policy enforcement, it is needed to remove the obstacles and barriers among the 03

organizations. Integrative Strategy of Planning and Budgeting

Second, it is critical to create a reformative government. For overcoming market extremism or red-tape bureaucracy, governments must move away from the dualism of bureaucratic controls and extreme market-oriented approaches. It should be noted that a government can be reformative and thereby it should focus on the role of creating a frontier-like and risk-taking government.

Third, it is also imperative to create a future-oriented government. Instead of drastically reducing the number of regulatory and control-oriented tasks, the government should concentrate resources on the implementation of national development strategies and concentrate on optimal policy development and strategies. In order for Mongolia to advance from a low-income and underdeveloped country to a middle-income country, it must constantly contemplate a strategy that responds to the changing demands of the government's role and policies.

2 Cohen and Eimicke , 1998; Osborne and Gaebler , 1993; Osborne and Plastrik , 2000. 3 Gimtaeryong, 2000 ; Baeyongsu, 2000; Lee, Jong - Su, 2010; Imdobin, 2010. 4 Lee and Choi, 2018. 3.2. Rationales of an Integration System

Recent theoretical discussions concerning governance beyond the traditional "managialism' and 'bureaucracy' which emphasizes the role of the State and national governments, and nowadays, it has been expanded to encompass the area of civil society in governance or collaborative democracy, which explains the new approach to national governance and policy processes and the changes in interactions among policymakers. A broader concept on governance recognizes the role of State and government intervention into the market or the private sector, but establishes a policy cooperation system based on partnerships between the State market and civil society5. In addition, it is desirable to provide more efficient and effective public services. In particular, new public management has been trying to overcome the ‘government failure’ and improve the efficiency and productivity of the government and the public sector through the combining of management practices being applied in the private sector and enterprises.

From a good governance perspective, the integrated management of planning and

166 budgets has several objectives: First, the process of reaching an agreement among

Strengthening Economic Development Planning and Infrastructure Funding for Mongolia policymakers on national development has a very important learning effect in itself. This is because it is possible to share what needs to be considered before budgeting, discussing prioritization for national development, the level and ways of resource allocation, and the expected policy outcomes. This ‘collective process’ prevents improper budget spending and allows government expenditure in more productive sectors.

Second, democratic decision-making can be learned by facilitating the participation of stakeholders and policymakers (planning and executive departments) in each phase of planning and implementing government policies. The problem facing many developing countries is also a lack of resources, but a more fundamental problem is the lack of planning capabilities to mobilize the available resources more efficiently and effectively. In the course of policy coordination that surrounds planning and budget allocation, policy participants learn competition, compromise, and coordination for better resource allocation.

Third, by integrating planning and budget functions, planning-budget ministries and executive departments will have mid- and long-term perspectives for national development rather than short-term effects. The reason why planning and budget decision-makers should have mid- to long-term vision is because, unlike the private sector, sustainable development requires balanced development between sectors, regions, and social classes. If planning and budgeting are separated, the executive branch will be negligent in the macro and long-

5 Osborne and Gaebler , 1993; Osborne and Plastrik , 2000; Stoker, 1998. term balanced development of the nation as it seeks to devote organizational capacity to expanding its own business. Although the short-term effects of the policy are not ignored in an integrated structure of planning and budget, it is possible to create conditions that enable the establishment and execution of mid- and long-term development plans rather than short-term performance.

The link between planning and budgeting functions has two main implications. First, there are advantages in minimizing budget waste and achieving the expected national development goals more effectively by setting up the budget size and sectoral spending plans in advance. Second, it is useful to overcome the limitations of a single-year budgeting system with an annual national development plan, and to predict fiscal spending needs with a longer-term perspective. By proactively linking mid- and long-term planning with budget demand, the government can present a vision of more feasible mid- and long- term national development. Furthermore, sustainability and predictability of short-term, medium, and long-term development plans can also be increased. In addition, it is allowed to quantitatively evaluate the achievement of policy objectives by period, and modify and supplement the mid- and long-term development plans based on more objective 167 performance evaluations by time period. It can be said that the Medium Term Expenditure Chapter Framework (MTEF) intends to establish a virtuous structure between planning and budget. 03

Rather than proposing an actual MTEF application in consideration of the Mongolian Integrative Strategy of Planning and Budgeting government's current planning and budget capabilities, this study proposes reasons why the linkage between planning and budgeting is important, what institutional and human capabilities are required to operate such a system of linkages, and what educational and training programs are needed to strengthen such capabilities.

3.3. Preconditions of an Integrative System

delineates key factors or preconditions of the integrated system of planning and budgeting. It includes leadership, policy process management (planning, execution, and evaluation), ministry collaboration, budget input, organization and institutions, professional workforce management, public-private collaboration, and policy-related effects. Leadership refers leading the national agenda from the top decision-maker(s), the full support of the special committee, and frequent inspection and management. Policy process management deals with changes in government management paradigms, short-term-medium-term- long-term strategy, realization of step-by-step action plans, identifying and overcoming constraints in advance, and evaluation management by business. Ministry collaboration means an early resolution of conflicts between departments, department-department multiparty collaboration, and a leadership dimension (policy coordination and role sharing). Budget input means national major agenda consensus, the size and timing of budget input, and domestic and overseas performance against input. Organization and institutions deals with reorganization and institutionalization by stages, the reorganization of the legal system to accommodate change, and the establishment of a dedicated organization. Professional workforce management means linking with policy development to train professional manpower, create demand for public sector information education, and develop training and retraining programs.

Key Factors of the Integrated System of Planning and Budgeting

Factor Description

• Leading the national agenda from the top decision-maker(s) • Bind different dimensions at one integrated focal point Leadership • Full support of special committee • Frequent inspection and management

• Changes in government management paradigms Policy Process Management • Short-term – medium-term – long-term strategy (Planning - Execution - • Realization of step-by-step action plans convert policy mandate into planning model Evaluation) • Identify and overcome constraints in advance • Evaluation management by business 168

Strengthening Economic Development Planning and Infrastructure Funding for Mongolia • Early resolution of conflicts between departments Ministry Collaboration • Department-department multiparty collaboration • Leadership dimension (policy coordination and role sharing)

• National major agenda consensus Budget Input • Size and timing of budget input • Domestic and overseas performance against input

• Reorganization and institutionalization by stages Organization and • Reorganization of the legal system to accommodate change Institutions • Establishment of a dedicated organization

• Linking with policy development Training professional manpower Professional Workforce • Demand creation for public sector information education Management • Development of training and retraining programs

• Create demand for the private sector Public-Private Cooperation • Aggressive outsourcing and Policy-Related Effects • Construct new business models

Source: Reconstructed based on Choi (2018).

The above seven factors are variables extracted by analyzing the results and trial and error experienced in the process of establishing Korea's e-government. One of the most important reasons for the adaptation of the e-government in Korea is the 1997-98 Asian economic crisis. The Asian economic crisis forced South Korea to make sweeping changes to its fast growth model that existed since the 1970s. On the domestic aspect, changes were required to the existing State-directed development model, and externally active responses to the global open economy were needed. In terms of industrial policy, development of a new growth engine was critical. On top of that, regarding government management, changes were also required in the existing government-centered and official-led policy processes. Under these internal and external circumstances, developing new innovative industries using IT technology and administrative reform through e-government were recognized as opportunities for new national economic growth as well as for breaking through the economic crisis.

The Presidential Secretariat was at the center for the grand project of e-government with the establishment of a cooperative system among the ministries, including the president himself, the Ministry of Information and Communication, the Ministry of Government Administration and Home Affairs, and the Ministry of Strategy and Finance accepting e-government implementation as one of the most pivotal national agendas. In addition, the Ministry of Strategy and Finance the Ministry of Government Administration and Home Affairs were at the center of the project, directly responsible for allocating and managing related budgets, and readjusting related laws and regulations concerning administrative reform respectively. Under the president's great interest, the e-government project was monitored almost every week. Furthermore, the Special Committee on e-Government was 169 organized to clearly specify the goals of each step, allocate resources more efficiently to Chapter realize the policy goals, and develop objective indicators to evaluate the performance of 03

each step, so that monitoring and evaluation were conducted on a regular basis. The basic Integrative Strategy of Planning and Budgeting factors extracted from this experience also have many implications for the establishment of new policy systems, such as the linkage of planning-budget for the Mongolian government.

To be sure, the seven elements mentioned above are not independent of each other, but are closely linked. For example, the bureaucracy that executes the vision and direction of national development strategy can be mobilized more efficiently when it has leadership that clearly sets it and seeks the consent of the people. The efficient mobilization of bureaucracies allows the government to reduce unnecessary waste and prevent expected risk factors in the policy process that consists of policy planning-implementation-evaluation. In other words, public problems identified in the policy planning stage are addressed with a structuralized and systematic policy processes that naturally link problem identification to problem solving through relevant policies. In addition, sharing among policy-setting groups on national development strategies will promote cooperation between concerned ministries and agencies, which will help the government build a more desirable budget input-out process while overcoming conflicts and selfishness among ministries.

On the other hand, the purpose of capacity building for civil servants is to enhance the level of personal and organizational competency required to carry out their task based on the expected capacity. In other words, the goal of the education and training programs for the civil servants is to minimize the gap between the ‘expected capacity’ and the ‘existing capacity’. In this respect, given the Mongolian government's capability to plan and budget, it may be practically overly ambitious for the Mongolian government should it try to apply or simultaneously improve the seven elements mentioned above. Nevertheless, in order to come up with a more realistic alternative to the capacity building of government officials in charge of planning and budget of the Mongolian government, the government will use the above seven indicators to identify the level and demand from the ‘existing capacity’. Chapter 3 describes major challenges related to planning-budget integrative system. Chapter 4 will identify current capabilities and demand for education and training based on descriptive analysis of the survey results designed for this KSP.

3.4. Lessons Learned from the Korean Case

Korea achieved unprecedented economic growth in world history after overcoming the ruins of colonial rule from Japan and the Korean War. In the early 1960s, Korea's per

170 capita income fell short of $100, but as of 2018, Korea's per capita income reached $28,000. It

Strengthening Economic Development Planning and Infrastructure Funding for Mongolia ranks 10th in the world in terms of trade and joined the OECD in 1996. There are countless empirical studies on Korea's economic growth, but we should pay attention to the highly efficient policy implementation system. At its core was the Economic Planning Board (EPB), which had the authority to design economic development plans and allocate the national budget. In the 1960s and 1970s, Korea also established, like many other underdeveloped countries, a five-year development plan and how to secure and mobilize resources to implement the plans was a very big task.

In addition, different views on the separation and integration of planning and budget functions were at odds. The position calling for the separation of planning and budget functions was that by separating the two roles, ministries with planning functions could design national development plans from a more objective perspective, while those with budget functions could be checked to ensure that ministries with planning functions did not exert excessive power. On the other hand, those calling for the integration of planning and budgeting argued that the separation of planning and budget functions could lead to conflicts among ministries, a lack of consistency in policies, and failure to coordinate policies. When these two views were at odds, South Korea chose to merge its planning and budgeting, and this integrated approach consequently made it easier to agree on national development goals among top policymakers.

‌A Brief History of Organizational Changes in Korea for Planning and Budget Ministries

Korea Now Korea 1998-2008 Korea 1961-1994

Planning (Reform) MPB Budgeting EPB MOSF Economic Policy Coordination MOFE

Economic Policy Tools MOF

Neutral Planner and Positive Poweful Control Checks and Balances Coordinator

Less Focus on Planning and Conflict Between Two Negative Weak Policy Coordination Budgeting Ministries

Source: Park (2018).

Admittedly, the multifaceted aspects of this integrated approach need to be addressed as well. First, there was efficiency in the mobilization of administrative organizations centered on the president in the presidential system in which policy decisions were decided to a 171 considerable degree by the president's orders, but the function of the National Assembly Chapter and the opinions of the people were relatively feeble. While administration-oriented or bureaucrat-driven policymaking had the advantage of responding quickly to policy demands 03 Integrative Strategy of Planning and Budgeting and achieving policy goals, the mechanism also had the disadvantages of neglecting the process of public debate in areas where national consensus is needed in the long run.

Policy decisions and budget execution centered on the EPB were faster and more efficient than the performance of or by line ministries. In addition, there was a positive aspect to reduce unnecessary administrative expenses by having a powerful single ministry control the resource distribution function. The EPB-centered structure contributed to preventing or minimizing conflicts among ministries. However, these advantages run counter to the trend of emphasizing professionalism and decentralization by diversifying policy demands from society and democratic procedures in the policymaking process.

The Asian economic crisis in 1997-98 called for Korean government changes in policy priorities, fiscal spending, and policy decision mechanisms. In addition, calls for the decentralization of society as a whole due to democratization facilitated a change in the centralized decision-making system that previously worked effectively during the period of rapid economic growth. As a result, revisions were also inevitable for the single economic decision-making system, which incorporated EPB-oriented planning and budgeting. Specifically, the EPB has modified its name to the Ministry of Planning and Budget (MPB) and divided some of its functions of policy coordination with the Ministry of Finance and Economy (MOFE) in an architecture that was previously monopolized by the MPB in terms of planning, budgeting, and policy coordination. In particular, policy coordination functions monopolized by the EPB along with the Presidential Office (or Blue House) until mid-1990s, were reshuffled into a division between MPB and MOFE after the organizational changes. The advantage of the new system was expected to be that appropriate checks and balances could be possible between the two ministries on economic policy. On the other hand, opposite views were also raised: challenges would occur regarding policy coordination from different approaches on national development strategies and economic policies between the two ministries as well as differences about the size and methods of resource allocations to be mobilized. In fact, the two ministries on economic policy divided the control tower, creating a rivalry between the large ministries.

To overcome the adverse effects of the separation of planning-budgeting-policy coordination, the Korean government established the Ministry of Strategy and Finance (MOSF) in 2013 through the integration of the MPB and MOFE. In addition to the planning, budgeting, and policy coordination functions carried out by EPB in the past, the new MOSF 172 has been reorganized into a single ministry absorbing even the main economic policy tools Strengthening Economic Development Planning and Infrastructure Funding for Mongolia of the MOFE. The advantages of the single largest ministry can be its strong drive and policy coordination functions. Line ministries can now unify their policy consultation channels with the MOSF, which is in charge of planning and budgeting, thus reducing administrative costs that have been spent on budget applications, policy coordination, and deliberation. However, the limitations exposed in a single-integrated system can also be pointed out. For example, the projects and budgets applied for by the other ministries are subject to the decision of one ministry, which generates overburdening of its officials and management capabilities, the absence of balanced checks on a single powerful ministry, and the contradiction between the trend of decentralization and centralized planning and budget functions.

3.5. The Mongolian Context

As the UNDP states the mechanisms supports integrated planning system and associated challenges across the planning cycle demonstrated as following:

• Strengthening institutions and governance systems; • Strengthening evidence-based, empirically backed policy options; • Development of budgeting and financial systems; • Support for Monitoring and Evaluation; • Capacity development. [Figure 3-7] Overview of Mechanisms Supporting Integrated Planning, and Associated Challenges Across the Planning Cycle in the Scoping Study Countries

• Integrated M&E Frameworks & Coordination • Fledgeling Mechanisms and Institutions • Capacity • Awareness • Accountability Mechanisms • Communication • Stakeholder Consultation • Historical Mindsets

Visioning M&E Cross-ministerial working groups, PPPs, NGOs, Civil Society technical committees stakeholder involvement

Integrated Assessments & Policy Design Implementation SEA, EIA, Ecosystem Services Valuation & SEEA Inter-Agency Working Groups, Systems Modelling Tools, Inter-Agency Working Groups, Public Environmental Expenditure Reviews Public Consultation

• Lack of Skilled Staff • Capacity

• Coherence & Coordination Across National • Interaction Between Researchers, Policymakers & Stakeholders & Country Governance Functions • Development of Programme-Based Budgets • Data • Underfunding & Competition for Resources • IT Systems 173

Source: UNDP (2014). Chapter

Regarding the development of budgeting and financial systems, the UNDP states: 03 Integrative Strategy of Planning and Budgeting

“Key areas of support and enabling factors include: (i) Ensuring integrated planning goes hand in hand with budgeting, so that funds are available for implementation and programmes are prioritized and phased in the face of budget constraints. (ii) Identifying and developing effective financing mechanisms to meet the costs of achieving the policy target. (iii) Governments putting in place the right mix of policy instruments that correct market failures while creating incentives for the private sector to adopt new technologies and ensuring favorable conditions for direct foreign investments that are compatible with a country’s development framework.”

Medium-term planning of national programmes must feed into medium-term budgeting frameworks at the national level and national programmes must speak the language of finance and budgeting. Development policy planning and its monitoring and evaluation process in Mongolia has been shifted into a result-based approach, enacting a law on development policy planning in 2015. However, while Mongolia is often presented as a country with programme budgeting having been introduced, the practical use of programmes and performance indicators in budgeting is minimal. In fact, it is still based on a traditional expenditure-oriented approach. The programme classification that is being used in the budget database does not match with the the policy programme structure used in the line ministries. This restricts the application of policies directly attached to budgets at a program level.

Therefore, in order to integrate policy planning with budget planning, it is necessary to reform the planning system together with the budgeting system in Mongolia.

3.6. Challenging Issues

As obligated by Law on Development Policy Planning and the Law on Budget, the main duty of the Ministry of Finance is to ensure coordination between medium and short- term policy with SDV, SDGs, and its financial coherence. Having the main responsibility to allocate the State budget, the financing of all national policy is one of the core commitments of the Ministry of Finance. Through giving permission to submit any medium-term policy proposals to the Cabinet of Mongolia, the MOF enabled the coherency of policies concerning the State budget. Within the frame of the budget ceiling, the MOF has been making stringent efforts to cover all aspects of development. Even though the Ministry of Finance plays an 174

Strengthening Economic Development Planning and Infrastructure Funding for Mongolia active role in the overall coordination of the policies, the actual budgeting process still heavily relies on old practices with little connection to policy processes and their targets.

Mongolia is in the process of gradually moving toward an output-based budgeting system. Reforms on introducing programme budgeting started over two decades ago. By 2010, the country had piloted new processes and templates to inform budget decision- makers on key performance indicators (KPI) by agencies and sectors. The process did not turn into a full-fledged programme-based budgeting, however, the formulation of KPIs is still in use and the parliament receives those at every budget cycle as part of Annex 1 of the Budget Law.

At the same time, the budget management information system also contains an expenditure classification that is called “programme classification”. However, there are still significant challenges in the application of an effective programme-based budgeting system both in its format and content. Format-wise, the KPIs presented to the parliament are not easy to bridge with budget appropriations. The programme classification applied by the MOF does not always match with what line ministries use as their sector programmes. Therefore, the current format of the budget documentation does not effectively inform budget decision-makers on programmes, sub-programmes, their objectives, KPIs, and allocated resources. Content-wise, budgeting in line ministries still needs to apply more programme- based principles of budget construction, including on bridging policies and budgets via the application of various analytical tools. In no country has such reform taken place smoothly and Mongolia is not an exception.

Budgets are more comprehensive in nature, so in order to ensure policies with budgets, line ministries are required to do lot more additional work to bridge the budgeting system with policy. However, due to capacity constraints and current budgeting practices, the job of line ministries is very complicated – they lack the technical capacity to integrate their sector plans and budgets without centrally driven methodology guidance and support. In additional, the capacity varies between the line ministries, which, in turn, creates additional challenges to reconcile all the budget proposals of variable quality.

As the State budget is a one-year fiscal plan, the budget expenditure is allocated primarily based on the Social Economic Guidelines, which are one-year national policy statements based on all sectors’ medium-term policies. Considering the priority of development aspects, as well as the efficiency of budget investment, each year’s Social Economic Guideline is formulated based on agreements between the MOF and line ministries.

175

From the view of the Social Economic Guideline of 2018, the 70 activities necessitate the Chapter funding of total 136 activities, of which 52 activities are set in the State annual budget 2018. 03 Integrative Strategy of Planning and Budgeting

Correlation Between Policy and Annual Budget

Of Which: Total Number No. Policy Funding of Activities Funding Not Neede Set In Annual Budget Needed

1 SEG 2018 136 66 70 52

2 SEG 2019 135 39 96 94

Source: Ministry of Finance, Mongolia.

In terms of the Social Economic Guideline of 2019, there are 135 activities approved with it, of which 96 activities require funding and most are set in the Annual Fiscal Law 2019. Even though the consistency of the Social Economic Guidelines and annual budget is getting better, the problem behind it still exists and a considerable amount of time and effort is being spent. The Ministry of Finance of Mongolia needs to consider appropriate options and sequences to reform the planning system together with the budgeting system that suit the country’s needs the most. It is obvious that this takes time and, most importantly, preparing human resources to adopt the new system requires significant effort. 4. Key Findings from The Survey

4.1. Assessment of Organizational Capacity

According to the survey conducted in 2013 among State organization’s officers in charge of development planning, the majority of the officers had master’s degree in business administration. However almost half of the overall officers had only one to five years of experience in their current field.

The Educational Level of Officers, Years of Experience (Officers/Percent) (Unit: Number, %)

Educational Years of Experienced in Public Sector No. Position Number Level 1-5 6-10 10+15 Total

Bachelor 1 (20) 2 (40) 2 (40) 5 (100) Head of Department 1 13 Master 1 (12) 3(38) 4 (50) 8 (100) and Division Total 2 (15) 5 (39) 6 (46) 13 (100) 176 Bachelor 0 1 (10) 9 (90) 10 (100) Strengthening Economic Development Planning and Infrastructure Funding for Mongolia

Master 3(14) 1 (4) 18(82) 22 (100) 2 Senior Specialist 35 Dr.Sc. 0 1 (33) 2 (67) 3 (100)

Total 3 (9) 3 (9) 29 (83) 35 (100)

High school 0 0 1 (100) 1 (100) education

Bachelor 39(67) 10 (17) 9 (16) 48 (100) 3 Specialist 106 Master 11 (26) 12 (28) 20 (46) 43 (100)

Dr.Sc. 2 (50) 0 2 (50) 2 (100)

Total 52(20) 22 (21) 32 (30) 106 (100)

Source: Survey On Development Policy Planning Institution's Structure And Its Capacity 2013.

For senior specialists, 63 percent had a master's degree, 28 percent had a bachelor's degree and the remaining percentage had a Doctor of Science. Most of the senior specialist or 83 percent had 10 or more years of experience. More than half of total specialists or 55 percent had a master's degree, 46 percent had worked in the public sector for more than 10 years. 49 percent of all professionals had experience of 1-5 years in civil service.

Working Experience in the Development Policy Planning Field (Unit: %)

Years Of Working Experienced In The Field Of Development Policy Planning Position Didn’t Work 1-5 6-10 10+ Total

Head of Department 0 38.5 38.5 23.1 100 and Division

Senior Specialist 2.9 31.4 28.6 37.1 100

Specialist 9.4 73.6 15.1 1.9 100

Total Civil Servants 7.1 61.0 20.1 11.8 100

Source: Survey On Development Policy Planning Institution's Structure And Its Capacity 2013.

About 61 percent of all the officers worked in the development policy planning field for less than five years, whereas head of departments and divisions had at least six years of experience and 37 percent of senior specialists had worked for more than 10 years. Nearly half of the heads of department and division attended training in development policy 177 planning during the last 12 months. More than half (60 percent) of the senior experts and Chapter professionals had not been involved in development policy planning during the past 12 03 months. Integrative Strategy of Planning and Budgeting

[Figure 3-8] Officers Involved in Training-related Development Planning (Unit: %)

Three times Twice Once Not Included

9 25 Specialist 62 4

11 26 Senior Specialist 63

8 31 Head of Department and Division 46 15

Source: Survey On Development Policy Planning Institution's Structure And Its Capacity 2013. The graph shows that senior specialists and specialists did not often participate in development policy planning training.

[Figure 3-9] The Status of the Development Policy and Planning System in 2013

Current situation Required amount

Legal Framework for Development Policy Planning

5

5 4.5 4 2.8 3.5 3 2.5 2 1.5 1 Professional Skills of 0.5 Coordination and Development Policy and 5 3 0 2.7 5 Collaboration Between Planning Sectors / Organizations

178 3.1 Strengthening Economic Development Planning and Infrastructure Funding for Mongolia

5

Coordination and Collaboration Between Departments and Division

Source: Survey On Development Policy Planning Institution's Structure And Its Capacity 2013

The scores are from 1 to 5, where 1 is worst, 2 is bad, 3 is medium, 4 is good, and 5 is very good.

Moreover, according to the survey, around 69 percent of the all directors evaluated the development policy planning legal environment as medium, and 34 percent of all senior specialist considered the legal environment to be bad. [Figure 3-10] Assessment of the Legal Environment of Development Policy Planning (Unit: %)

Worse Bad Medium Good

8 26 Specialist 43 24

6 34 Senior Specialist 46 14

15 8 Head of Department and Division 69 8

Source: Survey on development policy planning institution's structure and its capacity 2013.

Cooperation and collaboration between public organization was assessed as medium by 54 percent of all the directors, whereas one third of the senior officers assessed it as bad in condition.

179 [Figure 3-11] Cooperation and Collaboration Between Public Organizations Chapter (Unit: %)

Worse Bad Medium Good 03 Integrative Strategy of Planning and Budgeting

2 16 Specialist 49 32

6 14 Senior Specialist 60 20

8 Head of Department and Division 46 46

Source: Survey On Development Policy Planning Institution's Structure and Its Capacity.

When the development policy planning officers considered their professional skills on development planning, about 39 percent of the directors, 31 percent of the senior officers, and 20 percent of the officers assessed themselves as badly skilled, whereas nearly half of senior specialists consider themselves as average skilled. [Figure 3-12] Professional Skill of Development Policy Planning Officers (Unit: %)

Worse Bad Medium Good Well

4 19 Specialist 47 28 2

3 31 Senior Specialist 49 17

39 Head of Department and Division 39 23

Source: Survey On Development Policy Planning Institution's Structure And Its Capacity 2013.

Most of the officers said the availability of professional training was occasional and they rarely received adequate technical support.

180 [Figure 3-13] Technical Support for Officers

Strengthening Economic Development Planning and Infrastructure Funding for Mongolia (Unit: %)

Absent Few Medium Enough More than enough

If there are appropriate guidance and handout available 41 31 27 20

If there are Sufficient and reliable data available 27 31 38 31

If there are appropriate program/ software provided 44 19 25 9 1

If there are sufficient human resource in the field 22 26 43 6 1

If there are enough capacity building trainings available 47 34 17 11

Source: Survey On Development Policy Planning Institution's Structure And Its Capacity 2013.

4.2. Results of the Survey Conducted at the Ministry of Finance, Mongolia in February 2019

According to the survey conducted at Ministry of Finance of Mongolia in 2019, the majority of the survey participants agreed with the importance of the integration of planning and budgeting. The survey involved 43 officers of the Ministry of Finance, Mongolia and 11.6 percent of them were head of department and division, 34.8 percent of them are senior specialists, and 53.4 percent of the participants were junior officers. The survey involved 1/3 of the total officers of the Ministry of Finance, Mongolia.

Around 76 percent of the officers somehow agreed with encouraging the role of leadership in the planning and budgeting process, whereas about 20 percent of the officers stated poor encouragement from their leadership. Most of the junior officers had negative implications on leadership’s role on the planning and budgeting process, whereas senior officers gave strong credit for the encouragement from leadership.

Almost 98 percent of the total participants agreed that they well aware of the policy process of planning and budgeting cycles, of which 38.8 percent of the officers stated their strong agreement with awareness. Around 20 percent of the officers had deep knowledge on core elements of the short, medium, and long-term national development plans, 65 percent had fair knowledge, and about 13 percent of them stated that they do not have enough knowledge on the core elements of the national development plans. Near 50 percent of the head of departments and divisions and senior officers agreed that they have good knowledge on core elements of the national development plans.

181

[Figure 3-14] Awareness of the Policy Planning and Budgeting Process Chapter (Unit: %) 03 Integrative Strategy of Planning and Budgeting Aware well of the core elements of the short-medium- 19 65.1 13.9 and long term national development plans

Aware of policy process of planning and budgeting 34.8 62.7 1 cycles

0% 20% 40% 60% 80% 100%

Strongly Agree Agree Disagree Strongly disagree

Source: Ministry of Finance, Mongolia.

Regarding the feasibility of and ambition of the national development plans, the majority of the officers had a positive attitude. The officers who had negative attitudes were mostly junior officers. Approximately 60 percent of the total survey participanting officers agreed with poor integration of the planning and budgeting system, and around 72 percent of them stated that planning and budgeting systems are inefficiently separated. Mostly junior officers stated that planning and budgeting systems are well integrated, whereas the majority of the senior officers and heads of departments and divisions did not agree with the successful integration of planning and budgeting system. Regarding the collaboration between ministries and line ministries, most of the officers agreed with good collaborations.

Ministry Collaboration (Unit: %) Strongly Strongly Agree Disagree Agree Disagree

MoF and Line Ministries Collaborate Well While Planning 4.6 76.7 18.6 0 and Budgeting

Heads of Departments and Divisions 0 9.3 2.3 0

Senior Officers 0 25.5 9.3 0

Junior Officers 4.6 41.8 6.9 0

My Supervisor(s) Pay Attention to the Collaboration Within His/Her Division and/or Department while Planning and 16.2 72.0 9.3 2.3 Budgeting.

Heads of Departments and Divisions 2.3 9.3 0 0

Senior Officers 0 30.2 4.6 0

182 Junior Officers 13.9 32.5 4.6 2.3 Strengthening Economic Development Planning and Infrastructure Funding for Mongolia My Supervisor(s) Pay Attention to the Collaboration with Other Divisions and/or Department while Planning and 18.6 72.0 6.9 2.3 Budgeting.

Heads of Departments and Divisions 2.3 6.9 2.3 0

Senior Officers 0 32.5 2.3 0

Junior Officers 16.2 32.5 2.3 2.3

Source: Ministry of Finance, Mongolia.

Institutional set up and governance for integrated planning and budgeting systems is rated as good by the majority of the officers. Also, the awareness of the importance of integrated planning and budgeting systems and their legal environments are rated as good by the majority of the officers.

In terms of capacity building for the planning and budgeting, most of the officers were satisfied with their organizations’ training and educational services. [Figure 3-15] Participation in Capacity Building (Unit: %)

Junior

Senior I have participated in training and educational programs for the integrated planning and budgeting systems. Head

All

0 10 20 30 40 50 60 70 80 90 100

Frequently Often Seldom Never

Source: Ministry of Finance, Mongolia.

The majority of the officers stated that they were seldomly involved in the training of integrated planning and budgeting systems. In terms of encouragement from the organization regarding training, most of the officers are agreed that it was favorable 183 delivery from their organizations. Chapter

[Figure 3-16] Provision of Capacity Building Programs 03 Integrative Strategy of Planning and Budgeting (Unit: %)

Junior

I have requested educational and training Senior programs for planning and budget to my supervisor. Head

All

Junior

Senior My Organization has Timely Provided Educational and Tranining Programs for Planning and Budget. Head

All

0 10 20 30 40 50 60 70 80 90 100

Strongly Agree Agree Disagree Strongly Disagree

Source: Ministry of Finance. Overall, most of the officers of the Ministry of Finance, Mongolia at various levels have appropriate knowledge on planning and budgeting systems and their importance. Particularly, higher-level officers have a rather positive attitude on the integration of planning and budgeting. However, the majority of the officers responded that planning and budgeting is poorly integrated even though there is good cooperation between ministries. Moreover, it is interesting that while many respondents agreed that the training programs were good, they felt involved, and received good encouragement from high-level decision- makers, they also responded that planning and budgeting systems were still at inappropriate levels and had not been improved well.

4.2.1. Leadership

Leadership-related questions consisted of three sub-questions. Questions were asked about the degree of ownership in establishing the national development vision and development plans of top decision-makers, whether they fully support the planning and budget staff, and whether they frequently checked the planning and budget process.

184 Respondents surveyed said they agreed at a relatively high level of 80% or more to strongly

Strengthening Economic Development Planning and Infrastructure Funding for Mongolia agree and agree that their leadership clearly recognized country ownership while designing national development plans and visions. This finding suggests that the frontline staff at planning and budget offices trusted the leadership of the top decision-makers.

[Figure 3-17] Survey Result of Leadership (Unit: %) Strongly Strongly Agree Disagree Agree Disagree

58. Top decision-makers in planning and budget offices set up a clear vision and national 15 20 8 0 development plans with country ownership

59. Top decision-makers in planning and budget offices fully support their staff to participate in 16 17 9 0 planning and budget processes

60. Top decision-makers in planning and budget offices frequently check and inspect planning and 10 23 9 0 budget processes

4.2.2. Policy Process

The policy process questions consisted of six sub-questions. The first question is whether individuals in charge of planning and budgeting understand the policy processes consisting of planning-implementation-evaluation, and whether the processes are well versed in short-term, medium, and long-term development plans. When it came to policy processes, a relatively large number of respondents said they understood the processes well (including strongly agree and agree responses), while a small number of respondents said they are aware well of the core elements of the national development plans. Regarding the second question about the reality and feasibility of the national development plans and the level of linkage between planning and the budget, about 55 percent of respondents said that the national development plans were ‘overly ambitious.’ About 30 percent of respondents were negative about the level of planning and budget integration.

[Figure 3-18] Survey Result of Policy Process (Unit: %) Strongly Atrongly Agree Disagree Agree Disagree

61. I am aware well of the policy processes (plan- implementation-evaluation) of planning and 15 27 1 0 budget cycles.

62. I am aware well of the core elements of 185 the short, medium, and long-term national 8 29 6 0 Chapter development plans.

63. Our national development plans are feasible to 03 3 28 12 0 achieve. Integrative Strategy of Planning and Budgeting

64. Our national development plans are overly 5 18 19 1 ambitious to achieve.

65. Our planning and budget systems are well 3 25 12 2 integrated.

66. Our planning and budget systems are 5 25 12 1 inefficiently separated.

4.2.3. Ministry Collaboration

Concerning policy coordination and collaboration between ministries, the majority of respondents perceived, except about 10 percent of respondents, that collaboration between ministries is going well. However, considering that the survey was primarily done with the officials working at the Ministry of Finance, these responses need to be interpreted cautiously as counterpart line ministries of the MOF might have different perceptions on inter-ministerial collaboration. [Figure 3-19] Survey Result of Ministry Collaboration (Unit: %) Strongly Strongly Agree Disagree Agree Disagree

67. MoF and line ministries collaborate well while 2 33 8 0 planning and budgeting.

68. My supervisor(s) pay attention to the collaboration within his/her division and/or 7 31 4 1 department while planning and budgeting.

69. My supervisor(s) pay attention to the collaboration with other divisions and/or 8 31 3 1 department while planning and budgeting.

4.2.4. Organization and Institutions

Questions about the support and institutional mechanisms related to planning and budget linkage consisted of four sub-questions. About 77 percent of the respondents said

186 both the government and the parliament are aware of the importance of planning-budget

Strengthening Economic Development Planning and Infrastructure Funding for Mongolia linkage and the merits and demerits of the integrated systems.

[Figure 3-20] Survey Result of Organization and Institutions (Unit: %) Strongly Strongly Agree Disagree Agree Disagree

70. The Mongolian government institutionally supports integrating the planning and budget 8 29 6 0 system.

71. The Mongolian government just lets individual government officers execute the planning and 4 13 25 0 budgeting.

72. The Mongolian government and the Parliament are aware well of the advantages and 4 29 9 1 disadvantages of the integrated system of planning and budgeting.

73. I have enough knowledge on relevant laws or institutions regarding the integrated planning and 7 29 6 0 budget systems.

4.2.5. Capacity Building

The questions on capacity building asked if they had participated in education and training programs, recognized the need for education and training programs, and requested participation in those training programs before. Seven out of 43 respondents said they had never attended and 19 said they had rarely attended. On the request for a training program, 10 people said they never asked for it, and 13 said they rarely requested it, showing that more than 60 percent of the respondents had rarely participated in the education and training programs. The results of these responses suggest the need to develop capacity- building programs more actively and appropriately for working-level government officials who are in charge of planning and budget.

[Figure 3-21] Survey Result of Capacity Building (Unit: %)

Frequently Often Seldom Never

74. I have participated in training and educational programs for the integrated planning and 5 12 19 7 budgeting systems.

75. I have requested educational and training programs for planning and budget to my 6 13 13 10 supervisor.

Strongly Strongly Agree Disagree agree disagree 187 Chapter 76. My organization has provided educational and training programs for planning and budget in a 4 26 12 1 timely manner. 03 Integrative Strategy of Planning and Budgeting 77. My organization gives incentives and encourages staff members to participate in 9 20 13 1 educational and training programs for planning and budgeting. 5. Policy Recommendations

5.1. Planning-Budget-Linked Systemization

In order to integrate planning and budgeting, legal and institutional support should be accompany it. To this end, the Mongolian government needs to 1) strengthen the comprehensive policy planning system for development with policy stability or consistency, 2) link the rights and responsibilities of budget management to the budget expenditure system, and 3) expand the enhanced flexibility and continuity of short-term, medium, and long-term planning for national development. The ultimate goal of the economic development plan is not to make the plan itself. A more systematic development plan can be used to set the purpose and direction of budget spending in advance, prevent redundant spending with limited resources, and ultimately increase the effectiveness of budget spending.

In this backdrop, the following issues are notable: First, the challenges facing many 188 developing countries, including Mongolia, are fiscal structures that rely on outside sources, Strengthening Economic Development Planning and Infrastructure Funding for Mongolia such as loans from international financial institutions and private capital, which is one of causes of government budget instability along with unstable tax policies and a lack of or weakness of a taxation system. Therefore, while constructing the integrative system of planning and budgeting, efforts to secure government finances through tax reform and exploration of tax sources should be made simultaneously. A fiscal structure relying on the outside is a factor that exposes limitations in setting up development plans and reduces the concerned country's self-sustaining power. Accordingly, measures to revitalize the national and local economy to secure stable fiscal sources and structures should also be considered. Specifically, efforts to collect income and corporate taxes through tax reform should be made in parallel. Stable State fiscal management as well as fiscal independence is a prerequisite to harnessing the link between planning and budgeting. Second, for the efficient integration of development planning and implementation functions, meetings of economic policymakers should be held on a regular basis. The legal status of the meeting should consist of an organization within the government with stronger responsibilities and authority than the 'Committee'. Discussions, competitions, and agreements on key national policies should be carried out on a regular basis, forming a policy coordination mechanism that may be chaired by the prime minister or may be led by the finance minister. The meeting will discuss short-term fiscal spending plans based on mid- and long-term national development plans, plans to nurture industries, ways to mobilize private capital and overseas capital, and prioritizing spending and budget spending needed to cope with unexpected internal and external situations. 5.2. Institutionalization of Planning and Budget Linkages

The establishment of a system linking planning and budgeting has two implications in itself. First, in the course of discussing economic development plans, policymakers will consider optimal alternatives for national development. In the process of discussing how to put limited resources into which sectors, policymakers will share their vision and direction for national development. Second, while recognizing the importance of planning and budgeting, national development strategies can be improved from the level of short- term ‘investment plans’ to the level of ‘comprehensive development strategies’. In this process, national budget funds that could have been injected into a particular sector for a shortsighted plan can be readjusted at a more comprehensive and macro level, thereby preventing waste and distortion of resource input. In addition, unbalanced development by industry and region for political purposes can be overcome.

The planning functions include the establishment, deliberation, and coordination of the national development plan, as well as the review and approval of line ministries’ itemized policy proposals attached with expenditure plans. Admittedly, the separation of planning 189 functions and budget allocation or budget execution authority has some advantages Chapter including the planning body adjusting the proposed policies of each ministry from a neutral 03 position, while the lack of authority to control the line ministries in charge of budget Integrative Strategy of Planning and Budgeting execution makes effective implementation of the plan difficult. Therefore, for the integration of planning functions and budget functions, the government should strengthen the planning functions with budgeting, directly supervise the department managing the national statistics providing basic and essential information and data for the national development planning, and improve the national fiscal and expenditure management system.

Another important point is that since the goal of national development is subject to change according to the stage of economic growth, the ministry responsible for planning and budget functions should also operate flexibly in response. For example, policy priorities will change depending on whether the government wishes to focus on the quantitative growth of the economy or on qualitative growth, and the size of budget spending on those policies will change accordingly. In Korea, for instance, the government shifted its policy orientations from a growth-first strategy in the 1980s to a stabilizing strategy, and thus implemented strict policy measures in the fiscal and financial sectors. It should be noted that in this transition period when the national strategy changed to stabilization, the executive branch, that is, line ministries, basically valued growth through expansion of policy items and their own organizations, which is at odds with the planning department responsible for coordinating policies. There should be a change in the ministry in charge of planning and budgeting according to economic strategies. Thus, planning and budgets should not be fixed, but the organization should evolve as well, reflecting changes in economic strategies, economic policies, and economic management methods.

Recommended Actions and Expected Outcome By Time

Short-Term Mid-Term Long-Term

• Offer various training • Stable fiscal and budget • Scientific and more and educational revenue through tax objective projection of programs for officials reform planning and budget • Organize a regular • Construction of database Action • Develop a feasible meeting committee to for the fiscal and medium-term review and synthesize budgeting system expenditure framework the planning and budget • Legislate the integrative for the government system by law

• Enhance existing capacity to meet with • Increase the • Balanced budget for expected capacity government revenue economic and social • Raise the level of • Transparent Expected Outcome functions accountability and and efficient tax • Strengthen development responsibility of administration system Country ownership planning and budgeting by reducing corruption 190 by top decision-makers Strengthening Economic Development Planning and Infrastructure Funding for Mongolia Source: Constructed by the Authors.

5.3. Institutionalization of Performance-Based Budgeting

Establishing objective indicators and systems to track and assess the performance of the State budget and policies is a task of almost any modern government. Criticism of the role of the government and the public sector was considerable, especially government failures due to excessive intervention in civilian activities and regulations on the market, which directly undermined the public's confidence in the government. In response, introducing and implementing Performance-based Budgeting (PBB) that emphasizes transparency and the strategic management of government spending will be an important task for the Mongolian government. The PBB is also referred to as results-based budgeting or output-based budgeting, with performance assessment of the objectives and achievements of government policies. The core content and composition of the PBB can be described in three main ways: First, all government organizations responsible for implementing policies clearly recognize the goals of individual policies chosen by the State; second, the government objectively assesses how efficiently and effectively public resources are used to achieve these goals; and third, individual ministries and organizations should achieved national policy objectives, and then reflect their performances in the next year's budget. As a result, the performance- based budget system has the advantage of having a shared view of national policy objectives with the relevant ministries in advance, and encouraging the ministries to strive for more performance-oriented policy implementation while reducing unnecessary expenditures.

However, there are several prerequisites for PBB systems to be implemented properly. First of all, there should be consensus and drive for the nation's mid- and long- term development strategies. It is inevitable that different perspectives on development strategies and directions will exist in a variety of ways, and therefore leadership should be in place to determine optimal development strategies and priorities for resource input. Second, objectivity and professionalism are required for the establishment of performance indicators and actual evaluation. Subjective assessment and inconsistencies in performance evaluation systems are factors that will undermine the organization's credibility as well as the incentive to perform tasks, so pre- and post-evaluation indicators should be clearly established. Third, stable construction of the fiscal system is critical, including national revenue and expenditures. This is because even if national development strategies and resource allocation plans are ideally established and assessment indicators are objectively constructed, this can be nothing more than a desk theory if there is no realistic alternative to actual government revenues and expenditures. 191 Chapter

5.4. Capacity Building for Planning and Budget Linkages 03 Integrative Strategy of Planning and Budgeting In addition to establishing legislation to facilitate planning and budget linkages, it also provides specific capacity-building programs for relevant ministries, especially the MoF, NDA, and other planning departments. The basic purpose of capacity building is to achieve the mission that an organization should perform as efficiently and effectively as possible, while minimizing the gap between the ‘expected capacity’ and ‘existing capacity’ of the organization. The lack of capacity in public organizations in developing countries is cited by the fact that they are not properly supplied with the manpower required to execute their official duties due to low levels of education. In addition, even if there is a well- qualified workforce, these high-quality personnel will want to be employed by international organizations or the private sector with much higher salaries. International organizations/ the private sector and the government are competing to attract high-end workers, and in many cases the public sector suffers from a shortage of highly qualified workers. Another challenging issue is the absence of proper re-education and training after joining the public sector. The change in the policy environment requires officials in charge to adapt to the new era and develop more creative policies. Therefore, if proper educational institutions and training programs are not provided, civil servants will be unable to respond to new policy demands and remain satisfied with their daily work performance. This leads to a decline in trust in the government and public officials and a vicious circle in which motivation to join the public sector is weak. The third issue is how to overcome low levels of incentives or enthusiasm for education and self-development. Adding to the lack of expertise, job insecurity and lack of policy continuity due to political situations are factors that undermine the motivation of individual government employees for self-development.

The following points should be noted in relation to education and training for civil servants. First, since policy demand in Mongolia is different from that of developed countries, education and training programs should also consist of content that suits their own situations. Second, as mentioned earlier, the government should continue to develop education and training programs that reflect the national development stage as policy demand also changes along with the stage of national development, e.g, the stages of quantitative growth, sustainable development, or qualitative growth for a better life. Depending on the level of development stage, expectations required for civil servants are also subject to change. Third, in order to meet the policy demand in timely manner, it is necessary to establish educational and training institution(s) for civil servants. The first step is to establish and operate an institution that provides integrated education and 192 training programs at the central government level. Once the centralized institution is well

Strengthening Economic Development Planning and Infrastructure Funding for Mongolia established, it needs to operate educational and training institutions at local levels with decentralized and more customized programs.

Core Capacities for Civil Servants

Core Capacity Content

Agenda Setting Capacity Clear identification of the functions and policy goals of the government

Policy Formulation Capacity Investigation of multi-policy options, data analysis, and information management

Analysis of expected risks and evaluation of the expected/unexpected impact of Decision-Making Capacity those risks

Implementation capacity to determined policies in accordance with the stated Policy Implementation Capacity policy objectives, post-monitoring, inspection, and auditing systems

Evaluation of implemented policies, measurement of causality, and learning Policy Evaluation Capacity from the policy process, formation, and execution

Source: Reconstructed based on Choi and Choi (2014): 88.

With regard to curriculum construction, it is necessary to focus on the following five core areas. The first is the capacity to set policy agendas. Based on the perception of the role of the government, it is clearly aware of the policies that the government should carry out and what the purpose of the policy is. The second is the capacity to form policies. Policies are not formed in a vacuum, but by analyzing the problems of reality and seeking solutions to them. Therefore, the ability to analyze social and public problems faced is required in order to develop policymaking capabilities, and the ability to investigate, analyze and manage information is essential to present various policy alternatives. Third, decision- making capabilities can be used, which means the ability to analyze the expected risks and assess them proactively to derive the optimal alternative. Fourth, policy implementation capacity, which is the ability to execute determined policies in accordance with the stated policy objectives, covers the post-monitoring, inspection, and auditing systems. Fifth, the ability to evaluate policies refers to the capability to measure the performance of executed policies, analyze causality, and learn lessons from the policy process, formulation, and implementation.

5.5. Capacity Development Program for Mongolian Civil Servants

- ‌Rationales: KSP Project (2018/19) for the Mongolian government is conducting joint research and consultations on the efficiency and effectiveness of budget execution based on the integration of a planning and budgeting system.

193

- Objectives:‌ The main objective of the training is to strengthen the capacity of MOF staff Chapter members to adopt and improve the development planning system in Mongolia. 03

- ‌According to the result of research, it has been identified that Mongolia is at very critical Integrative Strategy of Planning and Budgeting situation to strengthen its human capacity in order to improve its planning system. The human capacity is considered a core factor to foster an integrated development planning system. A well-integrated planning system and strong linkages between policy planning and budget processes will improve the efficiency of policy resource input and the effectiveness of policy outcomes so that national development performance improves.

- Module 1: Why Integrative System of Planning and Budgeting Matters - Module 2: Lessons Learned from Best Practices: To Do or Not To Do list - Module 3: Tools and Approaches to Integrate Policy Planning and Budgeting - Module 4: Preconditions to Adopt an Integrative System - Module 5: ‌How to Apply the Integrative System to the Mongolian Government - Main Challenges.

- ‌Target Groups: Specialists responsible for planning and budgeting at the Ministry of Finance of Mongolia: Department of Economic Policy; Department of Budget Planning and Policy; Department of Financial Policy; Department of Public Administration and Management. - Expected outcomes:

1. Increased awareness on benefits of integrated planning systems; 2. Obtain knowledge on tools and approaches to ensure integrated planning systems; 3. Improved human capacity for integrated planning systems; 4. Improved integrity of planning and budgeting systems in Mongolia.

194 Strengthening Economic Development Planning and Infrastructure Funding for Mongolia References

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Strengthening Economic Development Planning and Infrastructure Funding for Mongolia ties. Synthesis report.

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04 Chapter

Developing and Applying the Project Readiness Assessment and Due Diligence Methodology Jongyearn Lee (KDI School of Public Policy and Management) Ochir Lkhagvasuren (Development Bank of Mongolia)

1. Introduction 2. Methodology in the Feasibility Study 3. Practice of Feasibility Studies in Mongolia 4. Korean Practice in Project Readiness Assessment and Due Diligence 5. Policy Suggestions

Keywords Feasibility Study, Financial Analysis, Public Investment Management, Infrastructure, Public-Private Partnerships Developing and Applying the Project Readiness Assessment and Due Diligence Methodology

Jongyearn Lee (KDI School of Public Policy and Management) Ochir Lkhagvasuren (Development Bank of Mongolia)

Summary

The main purpose of this study is to provide the Development Bank of Mongolia Asset Management Company (DBM AMC) with useful and hands-on recommendations on methodology they can make use of when attempting to assess project readiness and conduct due diligence. Moreover, it attempts to make further recommendations to the DBM AMC and 199 Chapter the Mongolian government to enhance the projects’ bankability. 04

To fulfill the purpose, this study overviews the typical methodology of a feasibility study Developing and Applying the Project Readiness Assessment and Due Diligence Methodology that is acceptable at the global standard. As a result, it deduces that a good feasibility study should:

• Outline the relevant information and arguments for the project that informs investment, structural, and implementation decisions; • Provide a succinct, clear, logical, and user-friendly structure and content; • Keep in mind that the size of the feasibility study is not a guarantee of quality; • Minimize costs and time through a clear purpose, requirements, and early planning at the outset; • Integrate project and post-implementation evaluation into the process; • Reflect stakeholder views and integrate consultation outcomes; • Convince through arguments that are optimally supported by hard data, including accurate costing and expected benefits; • Provide references to previous experiences and outcomes for implementing similar initiatives.

Then the study reviewed the practice of the feasibility study in Mongolia and found weaknesses and challenges: (1) Generally, the feasibility reports are at the level of a pre-feasibility study not a full feasibility study; (2) Technical feasibility should be first determined; (3) The market study in the document is lacking in depth and quality; and (4) Environmental impact assessment should be thoroughly conducted.

From the same point of view, Korean practices with feasibility studies are also reviewed. The findings and lessons include: (1) The methodology in the feasibility study is standardized; (2) Internal human resources are equipped with capacity and experience not only in financial analysis but in industry and technology; (3) Decision-making is done in a comprehensive way by experts from various fields; (4) The work of the asset management companies involving infrastructure is closely related to the policy direction of the government.

Finally, based on findings and lessons learned, policy suggestions are made as follows:

(1) The‌ DBM AMC must have adequate level of capacity to appraise the socio-economic, financial, and economic outcome of projects. (2) ‌In order for the DBM AMC to structure and allocate the risk and costs of its projects 200

Strengthening Economic Development Planning and Infrastructure Funding for Mongolia more effectively, the DBM AMC must avoid BT-type projects and focus on more classical PPP-type projects instead. (3) Employ a rigorous and transparent multi-staged feasibility process. (4) ‌Develop a clear and comprehensive manual on what makes an acceptable feasibility study, in terms of content, quality, and depth in order to have a unified scope and methodology for the feasibility study. (5) ‌Enhance the quality and ensure the reliability of the feasibility study by employing third-party independent peer reviews during the process. (6) ‌Employ a combination of in-house professionals and third-party experts, for the purposes of governance, efficiency, and cost saving. (7) ‌Introduce constant improvement mechanism by conducting a before-and-after feasibility study.

Moreover, to enhance the projects’ bankability, further recommendations to the Mongolian government also include: (1) Establishing a unified public investment management system and (2) Providing market promotion measures including guarantees and subsidies. 1. Introduction

The Development Bank of Mongolia (DBM) recently established a branch asset management company (AMC) to operate its investment funds. Due to its lack of experience in sourcing, the DBM AMC requested advice on how to develop and apply the project readiness assessment and due diligence methodology.

Accordingly, the purpose of this study is to suggest ways to establish a standard methodology that can be readily applied to the DBM AMC’s initial project selections using the experience and lessons from practical applications in the Republic of Korea.

Project readiness may mean how well a project is planned and prepared to be implemented, including the appropriateness of the basic plans and premises, correspondence with government policy, the availability of a project budget, the technical feasibility, compliance with laws, and the appropriateness of environmental impacts. In the life cycle of a project as shown in [Figure 4-1], a systematic and forward-looking assessment of the project readiness is one of the most crucial requirements in determining the success 201 Cha p t e r of the investment. On the other hand, due diligence refers to an investigation or audit of

a potential investment before entering into an agreement or a financial transaction with 04 another party to confirm all the facts, and might include the review of financial records. Developing and Applying the Project Readiness Assessment and Due Diligence Methodology

[Figure 4-1] Assessments in the Life Cycle of a Project

Organizational Readiness

Needs Identification

Project Readiness

Sourcing

Planning

Implementation

Evaluation

Source: Author. Although there are differences in detail in terms of purpose and function, the methodology of the feasibility study (or feasibility analysis) and the information obtained from it can be utilized for project readiness assessment and due diligence. Facing the time limits of the study, therefore, this chapter will focus on the methodology of the feasibility study as agreed upon with the DBM AMC.

The purpose of the feasibility study is to support rational and economic decision-making. Its importance lies in enhancing the efficiency and effectiveness of the project. More precisely, the feasibility study can be categorized by the performing agency as summarized in

.

Different Forms of Feasibility Study

Performing Agency Purpose Criteria Methodology

Cash Flow Analysis on Financial Institution Loan Review Ability to Repay Estimated Fund

Investment Decision- Economic Feasibility and Economic Analysis and Firm 202 Making Cash Flow of Investment Cash Flow Analysis Strengthening Economic Development Planning and Infrastructure Funding for Mongolia Budget Allocation and Impact on National Social Cost-Benefit Analysis Government Licensing Economy and Local Society and Input-Output Analysis

Source: Internal Document of Korea Management Consulting and Credit Rating Corporation.

The stance to take in any form of feasibility study is as follows. First, the analyst needs to be conservative when recognizing that two types of error can always occur when making decisions under uncertainty: type I (or α) errors and type II (or β) errors. The former denotes the risk to conclude that the project is not feasible in spite of its feasibility, while the latter means the opposite risk. Second, the more information that is acquired, the more the analyst has to be convinced that he/she is good at making decisions, and at the same time he/she has to realize that information always costs money. Third, it should be noted that time and money (information) are not free to make adequate decisions. Fourth, the analyst must have a good understanding of the topic and balance of constraints and assumptions in decision- making.

Moreover, the basic premises in a feasibility study are twofold. First, key judgements should be made on a cash basis, not on a profit basis. Second, the debits on the balance sheet (i.e., the operation of the asset) ultimately creates the project value, while the credit (i.e., the procurement of funds) only manages the risks that are exposed in a series of processes.

For the purpose of this study, this chapter deals with a feasibility study from the perspective of financial institutions. In particular, this chapter sheds lights on the essential analyses that are included in the feasibility report to help the DBM AMC review it. Practices in the Republic of Korea are also introduced, including contents of the feasibility study and collaborations between asset management companies and internationally reputable agencies to draw lessons.

In conclusion, this chapter provides policy suggestions to the DBM AMC directly related to developing and applying the feasibility study. Moreover, further measures to make projects viable and bankable are recommended.

The rest of this chapter consists of the followings. First, it summarizes the methodology that was widely applied in the feasibility study to assess the project readiness. Second, the Mongolian practice in project readiness assessment and due diligence, carried out by institutions other than the DBM AMC, will be reviewed to find weakness and challenges focusing on representative cases. Third, an overview of the same aspects in the Republic of Korea will be given. Fourth, the chapter concludes with policy suggestions for

Mongolia based on the lessons learned from the Republic of Korea’s experience in policy 203 implementations. Chapter 04 Developing and Applying the Project Readiness Assessment and Due Diligence Methodology 2. Methodology in the Feasibility Study

2.1. General Contents of the Feasibility Study

In terms of contents, there were no significant differences between the feasibility study requirements of the various forms listed in

. The feasibility study content requirements, with varying degrees of depth and importance, were more or less similar. For example, a feasibility study for a project intended for private funding gave more weight to financial viability and returns, therefore more importance was given to financial appraisals and the main metrics for decision-making became financial ratios. Whereas, for a project intended for public funding, the economic and social impacts were given more importance and economic metrics such as Benefit-Cost Ratio (BCR) were given more weight.

What could be gauged as “best practice” was that all these entities had very clear and comprehensive guidelines and manuals on how to formulate a feasibility study. In other words, the process of feasibility study formulation was more important than the actual content. For example, the requirements of the National Economic and Development Authority (NEDA) of the Philippines provided not only financial and economic metrics and ratios to calculate, but also provided very specific scenarios to calculate the scenario analysis and risk analysis. As for New South Wales Treasury Department of Australia, its guidelines include specific formulas to use for cost-benefit analysis (CBA), discounted cash flow analysis, and other financial appraisal methods. The manuals included steps to take in order to enhance the quality of the feasibility study, and provided what kinds of questions must be answered at a minimum to qualify as a meaningful feasibility study.

A feasibility study essentially tries to answer the question, “Should we proceed with the project?” On top of determining whether the project is viable, organizations can use a feasibility study for understanding the risks and preparing for them better. It should be noted here that a feasibility study is not the same as a business plan. A feasibility study provides an investigation into a specific project and its viability, whereas a business plan provides a planning function and provides the actions to be taken to make the plan a reality. A business plan is usually formulated once the project is deemed viable by a feasibility study.

In general, a good feasibility study should:

204

Strengthening Economic Development Planning and Infrastructure Funding for Mongolia • Outline the relevant information and arguments for the project that informs investment, structural, and implementation decisions; • Provide a succinct, clear, logical, and user-friendly structure and content; • Keep in mind that the size of the feasibility study is not a guarantee of quality; • Minimize costs and time through a clear purpose, requirements, and early planning at the outset; • Integrate project and post-implementation evaluation into the process; • Reflect stakeholder views and integrate consultation outcomes; • Convince through arguments that are optimally supported by hard data, including accurate costing and expected benefits; • Provide references to previous experiences and outcomes in implementing similar initiatives.

While the exact content of a feasibility study may vary between countries, projects, sectors, and whether the project is intended to be purely commercial, social, or varying degrees of both, generally speaking a feasibility study should at least contain the following information:

• Project’s Development Context, Objective, Outputs, and Delivery Schedule— Establishes what development need the project is trying to solve. This includes establishing strategic alignment with national priorities and determining the sectoral gap the project will address. The outputs that the project will deliver are also detailed as well as the proposed start and completion dates. • Legal Feasibility—Establishes the project sponsor’s legal mandate to implement the project and any potential legal issues that may put project implementation at risk. • Market (Supply and Demand) Analysis—Examines the overall market demand and supply vis-a-vis the project’s proposed output and services. All supply and demand forecasts and analyses are supported by robust methodologies and assumptions. • Technical and Engineering Analysis—Establishes whether the project is the best option to address the development need. This includes a discussion of the chosen option’s technical viability and preliminary engineering design from which costs are estimated. • Project Cost Analysis—Establishes the total and annual capital requirement of the project. In addition, this section examines the annual operation and maintenance (O&M) costs of the project. The base year of all costs are reported as well as the exchange rate used to convert foreign cost components into the local currency. 205 • Financial Viability and Sustainability Analysis—Determines whether the project Chapter can pay for itself, earn a reasonable return, and repay its debts. A financial analysis 04

also establishes the risks to financial viability and sustainability, and examines Developing and Applying the Project Readiness Assessment and Due Diligence Methodology mitigating measures. This may include a sensitivity analysis, scenario analysis, and breakeven analysis. A sensitivity analysis determines how sensitive the project’s cash flows are to changes in key variables. A scenario analysis is conducted to determine the impact of possible future events on the project’s viability. A breakeven analysis is conducted to determine the financial breakeven point. • Economic Analysis—Assesses the project’s feasibility in terms of its net contribution to the economic and social welfare of Mongolia as a whole, and/or to the specific region. This component of the feasibility study answers the question: Does the project’s economic benefits outweigh its costs (capital, operation and maintenance (O&M), environmental, and social costs) over the project life? This component of the feasibility study also establishes the risks to attaining economic viability. An economic analysis may also include a distributional analysis as well as a sensitivity, scenario, and breakeven analysis. • Social Analysis—Assesses the project’s target beneficiaries and affected groups, and the project’s social impact on these groups. In addition, a social analysis includes an analysis of gender and socio-political issues. This component also discusses any likely increase in costs due to social risks. • Institutional Analysis—Examines the project’s external and internal institutional arrangements, the project sponsor’s technical and financial capability based on a review of the sponsor’s past performance, absorptive capacity, and the feasibility of implementing the project as scheduled. • Environmental Analysis—Analyses the project’s environmental risks and proposes an environmental management strategy compliant with environmental requirements. This component also discusses any likely increase in costs due to environmental risks.

The feasibility study should be able to discuss the interrelationship among the various components. In the case of Mongolia, as mentioned above, the financial and economic appraisal section of a feasibility study needs to have more attention paid to it. In all practical senses what is generally considered a feasibility study in Mongolia is, in fact, essentially a pre-feasibility study with the majority of the discussion devoted to technical feasibility with only what can be considered rough or preliminary financial and economic estimates. Therefore, a more rigorous approach to financial feasibility must be promoted and full 206 financial and economic discussions must be included in the feasibility study. Strengthening Economic Development Planning and Infrastructure Funding for Mongolia

‌exhibits a useful way of looking at the whole feasibility process, where the accuracy and reliability of the study will increase as the process goes through each stage. Such a rigorous and disciplined multistage approach to project preparation and selection that will ultimately lead to lending and investment decision-making by the DBM AMC is recommended.

More precisely, a feasibility study is distinguished from a pre-feasibility study in its depth and rigor. Rajaram et al. (2014) compare these two stages as follows:

“The prefeasibility study helps to identify relevant alternatives before undertaking a full- fledged feasibility study and to find out early on whether a proposed project is feasible. The feasibility study takes prefeasibility analysis further by compiling all relevant data, refining project outputs and outcomes, outlining and analyzing in depth the selected alternative for achieving project objectives, and undertaking various background assessments including environmental and social impact analysis. Identifying an optimal option for preliminary design helps to narrow the scope of a project” (Rajaram et al., 2014, p.23). [Figure 4-2] Multistage Feasibility Study

Conceptual Feasibility Study

No

Feasible?

Yes

Pre-Feasibility Study

No Feasible?

Yes Increased Accuracy & Cost Increased Accuracy Feasibility Study

No Feasible?

Yes 207

Design and Construction Terminate Chapter

Source: Hyari and Kandil (2009), Figure (6), p.72. 04 Developing and Applying the Project Readiness Assessment and Due Diligence Methodology

Key Components of a Feasibility Analysis

Pre-feasibility Study Feasibility Study

•Data gathering (geographic, climate, socio-economic, •Compilation of all relevant data and technical) •Alternative technologies for project •Identification of project alternatives •Detailed estimate of costs and benefits for a selected •Major risks (including institutional and budgetary) alternative •Comparison of alternatives (engineering, socio- •Preliminary design economic costs, and benefits) •Detailed risk assessment •Recommended project alternatives •Detailed sustainability assessment •Preliminary estimate of project costs and benefits •Environmental impact assessment •Regulatory requirements •Social impact assessment •Identifying information for social impact assessment

Source: Rajaram et al. (2014), Table 2.1, p.23.

As discussed in the previous section, we focus on the feasibility study after the pre- feasibility study stage has already been completed.

2.2. The System of Analysis

The feasibility study consists of three main components: a strategic evaluation, an evaluation of commercializing ability, and a financial evaluation. First, the strategic evaluation investigates the project plan in terms of strategic status, efficiency, and effectiveness.

Second, the evaluation of commercializing ability comprises a technical evaluation, a review of the funding capability, and an evaluation of the system management ability. The technical evaluation assesses the technical ability and feasibility, location conditions, required funds, and furnishing capability. The review of the funding capability appreciates the self-funding and external procurement funds. The evaluation of the system management ability assesses operation and management ability as well as the ability to manage information.

Third, the step that requires the most time and accuracy, the financial evaluation, analyzes the marketability, profitability, and cash flow to use the information in economic analysis and sensitivity analysis. The flow chart of the entire analysis system is displayed in [Figure 4-3].

[Figure 4-3] Flow Chart of the Analysis System 208 Strengthening Economic Development Planning and Infrastructure Funding for Mongolia

Strategic and policy/managerial Strategic evaluation evaluation

Technical review

Evaluation of the commercializing ability Review of the required funds and procurement ability

Industry analysis Project analysis and estimating sales Cost estimation

Profitability analysis

Cash flow analysis

Financial analysis

Financial evaluation Sensitivity analysis

Identifying key success factors and Decision on feasibility as sessing key risk factors

Source: Author. 2.3. Evaluation on Commercializing Ability

The purpose of evaluating the commercializing ability is to assess the system components in view of the viability of the investment project. As a review of the qualitative (nonfinancial) aspects of a feasibility study, the review of the internal conditions of project management is centered and support from engineers is needed, with an emphasis on the technical aspects. The main aspects in this stage to be reviewed are summarized in

.

Aspects of the Evaluation of Commercializing Ability

Technical Ability Location Conditions

•Technology to design, construct, and operate •Connecting roads, railroads, ports, and airports •Materials, characteristics, usages, and substitutes •Available utilities (electricity, water, and fuel) •Arrangements and processes •Licensing and treatment of pollution •Construction periods, process plans •Ease of securing inputs (labor, raw materials, •Required funds in tranches (by work type and stage) information) •R&D ability •Accessibility to target markets •Technical risks •Reducing logistics costs •Possibility of delay (time overrun)

Funding Capability System Management Ability 209 • Labor supply and organization operation plans Chapter •Management ability •Ability to raise funds for the completion of the project •Stability of management authority

•Viability of plans for self-funding •Quality control systems 04

•Viability of other capital financing plans •Ability to acquire, develop, and manage information Developing and Applying the Project Readiness Assessment and Due Diligence Methodology •Competitiveness •Relations to existing projects

Source: Internal Document of Korea Management Consulting and Credit Rating Corporation.

2.4. Financial Evaluation

The financial evaluation breaks down into several stages as shown in [Figure 4-3]. We focus on marketability analysis, profitability analysis and financial analysis.

2.4.1. Marketability Analysis

The marketability means the sellability (or market acceptability) of products to be produced by each project during the review period, if there is any. To check marketability, whether it is possible to sell the right amount at reasonable price is examined. More precisely, the marketability of a project is analyzed by investigating the market conditions and internal strategies comprehensively.

For the internal purposes of a company, it is the market forecast of a planned project. For corporate rating purposes, it identifies the overall industry structure and trends of each division and analyzes the impact on future profitability. When reviewing loans, however, it reviews the possibility of sales considering the planned capacity based on the already prepared project plan. In any cases, the structure of the marketability analysis can be schematically drawn as in [Figure 4-4].

[Figure 4-4] Structure of Marketability Analysis

Market conditions (industry) Sales strategy by product line by product line

Sales forecast by product line

Total sales forecast

210 Source: Author. Strengthening Economic Development Planning and Infrastructure Funding for Mongolia

As stated above, both the market or industry conditions and strategies of each project should be reviewed where the focus of the review can be shifted as the environment changes. From the perspective of market conditions, the possibility of securing market share due to excess demand should be assessed. On the other hand, the possibility of securing the market position by strategy should be examined at the same time.

In this analysis, a comparative assessment approach was quite useful for contrasting new and existing product markets, positions with respect to the product life cycle (introduction, growth, maturity, decline, and withdrawal), export and import markets, parts, materials and finished goods markets, major companies and small and medium businesses, and/or manufacturing and service industries, to name a few.

Finally, setting up a target market is crucial because the market trends and the forecasts of individual companies may be different. Moreover, the relations between the scale of the market and the capacity of individual companies should also be carefully assessed.

2.4.2. Profitability Analysis

The profitability analysis starts with the cost estimation, which requires the following knowledge, standards, and decisions. First, the analysts have to identify characteristics of revenues and costs for products and related industries. Second, they need to understand accounting standards such as revenue recognition and cost accounting standards. Third, they have to understand manufacturing, constructing, or service process and cost structure (or cost nature). Fourth, they need to understand the interrelationship between the income statement and the manufacturing, constructing, or service cost statements. Fifth, they have to determine the importance, cost concepts (range of estimation), estimation unit, and individual calculation items. Sixth, they have to maintain consistently the conservatism throughout the entire process of the cost estimation. Finally, all prices should be constant and the basis price is on the review date.

The profitability is evaluated by two groups of standards: financial ratios and economic standards. The former includes the ratios related to sales, profitability rates related to the balance sheet, and those related to the cash flow. The latter comprises net profit, the payback period (PBP), the accounting rate of return (ARR), the net present value (NPV), and the internal rate of return (IRR).

[Figure 4-5] Standards in Financial Analysis 211 Chapter

Profit Basis 04 Developing and Applying the Project Readiness Assessment and Due Diligence Methodology

ARR

No Time Value Time Value NPV PBP IRR

Funding Basis

Source: Author.

Use of Investment Evaluation Standards (Unit: %)

Year of Survey 1975 1980 1986 1992

Evaluation Methods

A Specific Search and Screening of Alternatives 76 84 98 100

A Formal Financial Evaluation 93 95 100 100

PBP 73 81 92 94 ARR 51 49 56 50 IRR 44 57 75 81 NPV 32 39 68 74

Combined Evaluation Methods

No Method 2 0 0 0

A Single Method PBP 14 12 6 4 ARR 12 7 0 0 IRR 5 4 2 0 NPV 0 1 0 0 Subtotal 31 24 8 4

212 Two Methods

Strengthening Economic Development Planning and Infrastructure Funding for Mongolia PBP/ARR 14 13 10 8 PBP/IRR 14 15 8 9 PBP/NPV 4 6 5 6 ARR/IRR 0 2 2 0 ARR/NPV 1 1 1 0 IRR/NPV 1 4 3 5 Sub Total 34 40 29 28

Three Methods PBP/ARR/IRR 7 10 5 5 PBP/ARR/NPV 4 4 3 1 PBP/IRR/NPV 10 9 21 26 ARR/IRR/NPV 1 1 0 0 Sub Total 22 24 29 32

Four Methods PBP/ARR/IRR/NPV 11 12 34 36

Source: Pike (1996), Tables 2 and 3, pp.82-83.

2.4.3. Financial Analysis

The main results of the financial evaluation are drawn at the stage of the financial analysis. The standards adopted in this stage can be summarized as [Figure 4-5].

The naturally following question would then be which to use among these criteria.

shows the survey results on the usage of using each standard and it reveals that the adoption of a formal financial evaluation method became a must as early as the 1990s in the order of PBP, IRR, NPV, and ARR.

The PBP reflects the cash flow without considering the time value of money. It is useful for evaluating an investment that does not require the time value extensively (e.g., a project securing a long-term investment horizon and having high risk and uncertainty). It is also succinct in its interpretation since the inverse of PBP is equal to IRR.

The NPV method provides clear economic information. It supports various decisions by combining and decomposing between investment alternatives since the value additivity rule holds for it.

Finally, the above-mentioned investment evaluation standards have merits and demerits, so it is necessary to make a comprehensive judgment based on the results of various criteria or the choice according to the situation.

2.5. Risk Assessment

213 Throughout the previous steps, risks associated with the project should be clearly Chapter identified and assessed. The feasibility study should summarize them with highlights for preparing remedies to mitigate each risk factor at later stages such as sourcing, planning, 04 Developing and Applying the Project Readiness Assessment and Due Diligence Methodology and implementation as shown in [Figure 4-1].

Risks can arise at any stage and in any form depending the characteristics of the project. [Figure 4-6] summarizes a few common risk factors with comparisons of typical relative magnitudes.

For a specific project, some risks can be divided depending on the progress of the project and others may be influential throughout the lifecycle of it. [Figure 4-7] summarizes the risks categorized in this perspective along with possible sources worth checking in the feasibility study. [Figure 4-6] Category of Risk Factors

Lower Higher

Relative Risk / Return

Sub-Sector

ㆍEconomic Sensitivity Regulated GDP Sensitive

ㆍDemand Drivers Utilities e.g, Transportation

Stage of Development

ㆍDemand Risk Existing New build ㆍConstruction Risks (Brownfield) (Greenfield) ㆍUsage History

Geography

ㆍRegulatory 214 Developed Emerging ㆍPolitical

Strengthening Economic Development Planning and Infrastructure Funding for Mongolia Markets Markets ㆍLegal

Capital Structure

ㆍDebt vs. Equity Senior Minority Equity ㆍ% of Equity Ownership Secure Debt Ownership ㆍGovernance/Management

Source: J.P. Morgan Asset Management (2015).

[Figure 4-7] Risks Associated with Infrastructure Projects

Construction Risks O&M Risks

Financial Risks

Political Risks

Construction Operation Project Started Started Terminated [Figure 4-7] Continued

Classification Items to Check

• Incorrect estimation of costs & schedule • Unexpected situations of construction lot • Outbreak of civil complaints Construction Risks • Contractors/subcontractors’ disputes • Default of contractor • Bankruptcy of the SPC • Force Majeure

• Decline of income due to decrease in demand • Excessive operation costs • Decline in service quality Operation and Maintenance Risks • Contractor’s negligence, delays, suspended service • Rapid change in operation technology • Employee strikes • Force Majeure

• Credit risks • Liquidity risks • Inflation Financial Risks • Fluctuation of interest rates • Fluctuation of exchange rates • Risks of payment guarantee 215 • Rapid changes in policy Chapter • Imposition of new taxes Political Risks • Regulations on foreign currency exchange and remittance

• Risks of exchange rate fluctuation 04 Developing and Applying the Project Readiness Assessment and Due Diligence Methodology Source: Author.

3. Practice of Feasibility Studies in Mongolia

3.1. Overview

Feasibility studies are conducted to justify investments in infrastructure projects. In Mongolia’s case, having a feasibility study is a minimum requirement for public investment spending and such requirements are reflected in the relevant laws. However, despite the importance of feasibility studies, and despite their recognition as such, in supporting decisions related to public spending on infrastructure projects, very limited attempts were made to fully evaluate and validate such studies and institutionalize the process. Decision- makers must use the outcomes of feasibility studies for infrastructure projects with extreme caution as some studies may provide misleading information and lead to erroneous decision- making (Hyari and Kandil, 2009). The DBM AMC was established in 2017 “to invest in high-return economic growth projects that contribute to the economy of Mongolia.” As such, the key difference of the DBM AMC from other investment funds is the duality of its mission. Namely, on top of its commercial objective, which is to invest in high-potential infrastructure projects to generate return for investors, the DBM AMC has an equally, if not more, important objective of national socio- economic development. In order to serve its purpose, the DBM AMC will have to look into a project’s contributions to economic development, social benefits versus its costs, regional development, and economic multiplier effect as well as its capacity for repayment and financial returns. The duality of its objective presents a set of unique challenges that must be resolved in order for the DBM AMC to operate effectively. Therefore, the company must have the capacity to appraise both the socio-economic and financial outcome of projects.

Due to Mongolia’s development phase and its large infrastructure gap it can be safely anticipated that most of, if not all, the DBM AMC’s involvement will be in infrastructure projects. Moreover, because of its duality we expect that most of these projects will be Public- Private Partnership (PPP) type projects in nature, projects that are either too risky or too 216 large for private-only investment and implementation. Therefore, it is suitable for the DBM

Strengthening Economic Development Planning and Infrastructure Funding for Mongolia AMC to pursue PPP or Private-Sector Participation (PSP) projects. Such projects will be long- term in nature and will most likely be in the railway, transportation, manufacturing, mining, and processing sectors. It is recommended that in order for the DBM AMC to structure and allocate the risk and costs of projects effectively it must avoid Build-Transfer (BT) types of projects and focus on more conventional PPP-type projects instead.

3.2. Case of 2018-21 PIP Formulation by the NDA

To review the methodologies for project readiness assessment and due diligence, the formal process of feasibility study formulation and its validity of a number of international cases, including New South Wales, Australia, the Philippines, and International Finance Corporation (IFC) were reviewed and studied. In addition, the outcomes and reports on IFC’s technical assistance to the National Development Agency (NDA) on developing the medium- term Public Investment Program (PIP) and improving the public investment programming process was looked at and included in the comparative analysis. This case was helpful to this assignment as it gave us a domestic insight of the whole process from the perspective of a public entity. As deliverables for the NDA assignment, the IFC had furnished the agency with number of reports ranging from recommendations on improving the national investment programming process to the actual formulation of a suggested medium-term PIP and a readiness assessment (a lighter version of feasibility study validity) on a large-scale investment project. The reports were highly relevant to this specific assignment because the challenges faced by the NDA are not dissimilar from the challenges being faced by the DBM AMC in reviewing, screening, validating, and prioritizing numerous investment projects.

Under this study, the NDA’s case of 2018-21 PIP formulation, which was supported by the IFC was examined, because the lessons learned there may be of relevance to the case of the DBM AMC.

Public investment programming is the medium-term capital investment programming of the government. The output of this process is the PIP, which comprises priority projects that will carry out the government’s development plans and policies in the medium term. The PIP is envisioned to be an umbrella capital expenditure policy paper that all national-level investments will be based on. For the purposes of stability and relevancy, the PIP is intended to have three-year span and will be reviewed and updated every year. The PIP itself is based on national policies such as the Millennium Development Goals and Government Action Plan (both approved by the Parliament) and is approved by the Cabinet. Although the concept of PIP has been discussed at the ministry and agency levels for many years the actual implementation and practice of PIP is relatively new to the government. Therefore, 217 the IFC was contracted by the NDA to assist the agency in developing the PIP and improving Chapter the process. The IFC’s assignment was carried out between March 2017 to April 2018 and 04 covered the 2018-21 PIP. Developing and Applying the Project Readiness Assessment and Due Diligence Methodology

It was noted that in formulating the 2018-21 PIP, the NDA had recognized the need to standardize project information to facilitate prioritization across sectors. The NDA had circulated a project information format to be used by line ministries for projects proposed to be included in the PIP. The NDA had also required the line ministries to rank their sector’s projects using the following as criteria, all of which must be based on the feasibility study:

• Economic benefits and investment returns; • Social development importance; • Extent to which the project meets medium-term and long-tern national development policies; • Extent to which the project meets 2016-20 Government Action Plan (GAP); • Extent to which the project meets sectoral development policies; • Extent to which the project meets regional development needs; • Contingent liability risk of the project; • Operational risk of the project; • Inter-sectoral influence of the project. 3.3. Validation of Feasibility Study

In order to validate a feasibility study, each component of the document must be thoroughly reviewed for accuracy and reliability, and when appropriate and necessary a third-party peer review should be contracted and performed.

The following key areas of a feasibility study should be thoroughly reviewed and validated:

ⅰ) ‌Technical validity, whether the technical solutions chosen are the most effective choices for the project given other alternatives; and whether the implementation schedule and expected capacity utilization rate are realistic and obtainable;

ⅱ) ‌Environmental issues, especially for large-scale projects with significant environmental footprints and whether the additional costs associated with environmental mitigating measures can be absorbed by the project without negatively affecting its financial viability; 218 Strengthening Economic Development Planning and Infrastructure Funding for Mongolia

ⅲ) ‌Socio-economic validity, in the case of the DBM AMC, whether the project carries enough social and economic benefit, and whether it meets national development policies;

ⅳ) ‌Financial viability, whether the proposed project has an in-depth, full financial model and whether the assumptions used under the model are realistic. The financial validity exercise must gauge the viability of the project against a multitude of financial ratios, such as IRR, Payback Ratio, debt coverage ratios, and, when relevant, Return on Equity (ROE) and other equity return ratios. This validity must also gauge how these ratios respond to different scenarios under a carefully developed scenario analysis based on risks associated with the project (construction period risks, as well as operational risks);

ⅴ) ‌Validity of market studies and market potential studies. The validity of market study must be given the highest importance as most other studies of a feasibility study must be derived from this study. The validity exercise of this study must gauge whether target market has been correctly identified, market failures accurately recognized and demand correctly estimated. The findings from the exercise must feed into and interrelate with project capacity and the utilization rate, technical solutions, project structure, and financial outcomes. As is common with most asset management and investment companies, it is recommended that the DBM AMC have a professional team of financial experts as well as technical in-house experts/engineers that will help the decision-making process of the company. In most cases, from the perspective of governance, efficiency, and cost saving, most of the heavy lifting in the validation process is carried out by third-party, independent professionals. For instance, it is recommended that the DBM AMC have in-house engineering and technical experts in order to understand its projects better, but it is unreasonable to expect the AMC to employ all types of engineers from most or all of the sectors the company is involved in. Therefore, for the technical validity process a much more efficient path would be to employ third-party professionals for independent engineering and technical peer reviews guided by the in-house experts.

The same could be said for the financial and market validation process. As mentioned above, in the case of Mongolia, most feasibility studies of large-scale projects do not have sufficient economic and financial discussions to pass as a bankable feasibility study. Very few domestic companies have the actual experience and capacity to design, develop, and appraise a large-scale investment project feasibility study that would pass the requirements 219 of international financial institutions. Therefore, it is recommended that the DBM AMC Chapter provide extensive handholding to project sponsors in order to make sure that large-scale 04

investment projects access financing. Due to the DBM AMC’s expected mission and due to Developing and Applying the Project Readiness Assessment and Due Diligence Methodology domestic restraints, it is expected that most of the DBM AMC’s portfolio projects could not be fully financed through domestic sources. In this environment, the most suitable path would be for the DBM AMC to have a small team of financial professionals that is expected to assist in the DBM AMC’s decision-making, and actual handholding to develop a bankable feasibility study and the validating process be done by third-party independent financial experts.

The expected advantages from following this approach include, on top of efficiency and cost savings: (i) providing another layer that can help in ensuring the objectivity of feasibility study, ii) motivating and requiring the project sponsors to give importance to the quality of their feasibility study, knowing that the studies will be subjected to analytical and critical reviews by experts in the area, (iii) providing a broader evaluation of the assumptions and analysis of the feasibility study, (iv) assuring lenders and investors that feasibility studies are prepared with the best possible knowledge of experts in a transparent way, and (v) providing owners with additional confidence in the outcome of the feasibility study (Hyari and Kandil, 2009, pp.74-75). 3.4. Findings and Discussions

3.4.1. General Findings and Discussions on Feasibility Study

In order to review the validation of feasibility studies in Mongolia, the feasibility study of one of the large infrastructure projects was selected as a pilot and reviewed by the consultant accordingly. Due to a very restrictive confidentiality agreement signed with the sponsor of the project, only limited and general findings and recommendations of this project are presented below.

It is a pre-feasibility study not a full feasibility study. A 200-page feasibility study as furnished by the ABC company (name withdrawn due to confidentiality) in which the vast majority of the discussion was focused on the technical solutions for the project. Financial and economic appraisal was almost negligent.

Determine technical feasibility. The very first step is for AM and ABC to conduct an independent peer review to determine whether the project is technically feasible. Only then 220 should the project should move forward to full feasibility study development. Strengthening Economic Development Planning and Infrastructure Funding for Mongolia

Full market study. The market study in the document was lacking in depth and quality. Assumptions behind the project demand/capacity utilization were unconvincing. Other major potential users of the railroad must be identified along with their required transport volume.

Conduct an environmental impact assessment. Due to the significant environmental footprint and impact of the proposed project and possible social impact, an independent assessment is required. The mitigating measures proposed from the assessment may impact the economics of the project.

Develop a full feasibility study. After the technical viability and environmental impact assessment, the findings must be incorporated into the full feasibility study. A full feasibility study must include a comprehensive market and market potential study, and must have comprehensive economic and financial analysis, which must be backed by a full financial model. All financial and economic metrics, including debt coverage ratios, profitability ratios, and benefit-cost ratios must be calculated under a number of scenarios based on risk assessment. All of these are missing from the current document in almost its entirety.

Identify off-takers and receive commitments. Projects of such a nature will only be successful if a significant portion of the revenue is guaranteed by off-take agreements. Such off-take agreements must include mechanisms such as a minimum revenue guarantee in order convince international lenders and investors. 3.4.2. Other Findings and Discussions

To a certain extent, the line ministries were able to rank their projects within their respective sectors using the above criteria. However, it was difficult to ascertain the reliability of the information because there was, and still is, no standardized and institutionalized guidance, for example, to calculate contingent liability risk, economic benefits, and financial returns of projects. Moreover, the received pre-feasibility study and feasibility study both had varying degrees of depth and width in terms of the information provided, and the overall quality of the documents were widely varying and mostly sub- optimal. The overarching pattern that emerged was that technical feasibility information consumed a significant portion of the document, and a full, in-depth financial and economic analysis was severely lacking. Even for a non-revenue generating public project, the quality of the CBA was lacking.

Infrastructure projects are large construction projects that utilize vast amounts of resources such as money, materials, labor, and time. Therefore, such large-scale spending and investment must be weighed against the expected benefits resulting from these projects 221 for national economic development. As such, economic and financial feasibility studies must Chapter take center stage in any feasibility study. 04 Developing and Applying the Project Readiness Assessment and Due Diligence Methodology According to the IFC reports, during the 2018-21 PIP formulation process a total of 155 capital investment projects were submitted by line ministries and project sponsors to the NDA. A list of 155 projects is enough of a sample size to draw meaningful conclusions regarding project preparedness. It must be noted that the list included not only purely public, social-oriented projects but also private, financial return-oriented projects that required some form of government support. Moreover, almost all of the projects were ― large-scale projects, exceeding MNT 30.0 billion in capital expenditures. Although a few projects did not have a feasibility study or pre-feasibility study, a significant majority of the projects did have either one or both developed by private consulting firms.

The general conclusion was that uniformity in terms of content, width, and depth was severely lacking, which made any meaningful cross-sectoral and cross-project review and assessment difficult. On top of that, the unreliable nature of most of the feasibility studies and pre-feasibility studies made actual judgments about the socio-economic and financial worthiness of the specific projects problematic. In such an environment, it would be practically impossible to make informed investment and spending decisions. The main culprits of this environment are (i) the lack of standardized and institutionalized requirements for feasibility studies in terms of their content, quality, and depth; and (ii) the lack of a rigorous and meaningful validation process to make sure that the provided feasibility studies are reliable enough to make effective decisions.

Moreover, decision-makers should carefully note the biases in play in feasibility study formulation. The clients for the feasibility studies, line ministries as well as private-sector project sponsors, are always biased and draw the project in a more favorable light than it actually is as they stand to gain more from the approval of their projects. Such biases could possibly, whether intentionally or unintentionally, lead to manipulating and/or overestimating the project benefits. If feasibility studies are based on estimates or forecasts that can be inaccurate or in some cases manipulated, how valid will the feasibility study of project be? This is another key reason to establish a robust validation and due diligence process before any spending decision-making.

Feasibility studies for different projects in different sectors are performed by different organizations and consultants. As such, preparing a feasibility study without unified guidelines and evaluation criteria for all the projects makes the development of such

222 projects highly subject to the bias (Hyari and Kandil, 2009). In order for the DBM AMC to

Strengthening Economic Development Planning and Infrastructure Funding for Mongolia effectively conduct an appraisal of a project feasibility study it must first provide a clear and comprehensive set of requirements against which all proposed projects’ feasibility studies will be assessed.

4. Korean Practice in Project Readiness Assessment and Due Diligence

4.1. Overview

Asset management companies in Korea, which will be introduced more in depth in Chapter 5, engage in a wide range of infrastructure projects, offer equity/mezzanine investments, financing arrangement services and project consulting, and provide insights on PF business feasibility through industry/corporate analysis garnered from extensively accumulated experience. Their target projects stretch from core infrastructure projects such as roads, railroads, harbors, and education and environmental facilities to plants, mining facilities, shipping PF, and regional development such as the construction of industrial complexes and satellite towns. Their services on demand in the area of PF include (1) proposing a business risk analysis and measures for risk management, (2) scheming the financing structure as well as financing terms, (3) engaging and educating clients on potential deal issues, (4) arranging financing from investors/lenders and overseeing the funding process, and (5) supporting and providing advice on negotiations.

[Figure 4-8] Key Features of Fund Investment Strategy

Exit Due Diligence Asset Management Investment Approval Investment Sourcing & Screening Financial Analysis & Structuring

Source: Arranged By The Author After Interviews With Asset Management Companies.

The investment process of asset management companies in Korea is well-structured and 223 Chapter sufficient to meet the global standard. As shown in [Figure 4-8], the fund investment process in Korea can be categorized in six steps. First, the investment possibilities are sourced and 04 screened. At this initial stage, transactions are sourced through in-house marketing and Developing and Applying the Project Readiness Assessment and Due Diligence Methodology networking with investors/sponsors. While a variety of sectors are considered, cash flow stability is emphasized with investments.

Second, in the due diligence stage, a feasibility study is conducted with outside reputable consultants independently investigating potential projects. In so doing, information through an analysis of a project’s expected earnings, cash yield, profit models, and major risk factors is gathered. If necessary, companies hire professionals to review each item. The feasibility is then further assessed with site inspections, meetings with management, and detailed financial due diligence. Through due diligence, the fund’s investment structure is optimized and terms are negotiated.

Third, using due diligence outcomes, a detailed financial analysis is conducted. Using conservative sensitivity analysis and by understanding influential variables, methods to mitigate risks are developed. At this stage, asset management companies hire legal, tax, accounting, technical, and environmental consultants if necessary to uncover and mitigate potential risk factors.

Fourth, the final investment decisions are made via an internal investment committee, abiding by internal decision-making guidelines. The committee consists of high-level managers such as division heads and general managers.

Fifth, after the company decided to invest in a project, it adds values by actively and strategically managing assets. The asset management companies improve asset values by participating in board meetings, working with advisory committees, and cooperating closely with management. They also provide beneficiaries with routine monitoring of invested assets, periodically conducted financial analysis, and information updates about business operations and conditions.

Sixth, at the exit stage, the companies set up exit plans to maximize investment returns and realize early profits during the holding period via opportunistic sales, public offerings, and securitizations. At the same time, they examine opportunities for refinancing and restructuring the fund in order to increase holding period returns.

4.2. A Case Study 224

Strengthening Economic Development Planning and Infrastructure Funding for Mongolia To understand the contents of the feasibility study conducted for a Korean project, we selected the case of Korean domestic infrastructure project. In selecting the case, we considered the feasibility study for a road project because the sector is a representative of core infrastructure. Among them, we further focused on an era when circumstances of the Korean PPP market had features that could provide implications for Mongolia. As a result, we chose the financial and economic feasibility study on the Cheonan-Nonsan Expressway project.

4.2.1. Project Overview

The Cheonan-Nonsan Expressway project was one of the first PPP projects implemented under the PPP Act. The project is an 81.0km, dual two-lane toll expressway between Cheonan and Nonsan, connecting the northwestern and southwestern provinces of Korea as part of the national highway system as shown in [Figure 4-9]. It has two major tunnels, 44 bridges, and seven interchanges. Construction of the Cheonan-Nonsan Expressway began in December 1997 and tolling operation commenced in December 2002. [Figure 4-9] Location Map of the Cheonan-Nonsan Expressway

Source: PICKO (2002). 225 Chapter The competent authority of the project was the Ministry of Construction and

Transportation (MOCT). The main investor was an Australia-based company to the 04 Developing and Applying the Project Readiness Assessment and Due Diligence Methodology concessionaire of the project. The company’s involvement was in the form of equity (60 percent, KRW 87.8 billion) and a subordinated loan (KRW 182.2 billion). The contents of the concession agreement are as in

.

Concession Agreement of Cheonan-Nonsan Expressway

Concession Agreement Contents

Government Authority Ministry of Construction and Transportation

Construction Duration 5 years

Concession Term 30 years

Guarantee Duration 20 years

Concession Term Commencement December 2002

Minimum Guarantee 82% of annual CA projected revenue

Revenue Cap 110% of annual CA projected revenue

Source: PICKO (2002).

Looking at the financing structure, the total project cost (TPC) was fixed at the conclusion of concession agreement negotiated between MOCT and the SPC as shown in

. Financing Structure of the Cheonan-Nonsan Expressway (Unit: USD million)

Item Cost

Construction 1,017 Including investigation and design costs

Operation Equipment 34

Others 56

Total Project Cost 1,107 Tax, Incidental costs, etc.

Price Contingency 70

Interest (During Construction) 97

Total Investment 1,274

Source: PICKO (2002).

4.2.2. Feasibility Study

Co-commissioned by a Korean bank and the special purpose company (SPC), the feasibility study was led by a credit rating company in Korea collaborating with 226

Strengthening Economic Development Planning and Infrastructure Funding for Mongolia internationally reputable research companies and reviewed by an internationally renowned credit rating company.

In the feasibility study, the traffic forecast was made by a reputable research institute in the United States. The future traffic volume was expected to increase continuously and the project will play a central role as a main traffic artery as shown in

.

Demand Profile of the Cheonan-Nonsan Expressway (Unit: km, %)

Section Length 2003 2006 2011 2016 2021

A 1.42km 61,133 79,577 95,766 110,804 124,580

B 17.51km 54,853 66,903 82,718 95,705 107,626

C 13.12km 54,459 63,823 81,762 94,606 106,384

⁞ ⁞ ⁞ ⁞ ⁞ ⁞ ⁞

H 9.10km 40,344 46,036 56,306 65,148 73,252

I 8.57km 37,449 45,720 53,320 61,693 69,370

Weighted Avg. Traffic Volume of the Whole 80.96km 46,557 53,954 67,841 78,492 88,265 Section

Annual Average Increase Rate 5.0% 4.7% 3.0% 2.4%

Source: PICKO (2002). When reviewed, the adequacy of the estimation methodology, premises and assumptions, and data were examined. For example, the review checks how the feasibility study considers development plans of competing roads, whether the data used has public confidence, and how macro-level information is reflected including drivers’ attitudes toward toll roads and the level of expected tariffs compared to other countries.

To forecast the project’s capital needs and indebtedness, the feasibility study estimated the total project cost (TPC) and total investment (TI). In so doing, it classified the cost items as survey costs, design costs, construction costs, compensation costs, incidental costs, costs for the operation of equipment, taxes and public utility rates, reserves for operation, construction material fluctuation costs, interest incurred during the construction period, and opportunity cost of capital. The annually required amount for each cost item is allocated for the relevant years during construction. For the same period, the financing schedule was estimated by classifying components of financing namely equity, debt, and subsidies. Consequently, their ratios were estimated for each year.

When reviewed, the levels of TPC and TI were converted into the cost per lane mile 227 and compared with similar projects in similar countries. The allocation of equity, debt, Chapter and subsidies as well as the amount of syndicated bank debt were also reviewed for their 04 adequacy. Developing and Applying the Project Readiness Assessment and Due Diligence Methodology

During the operation period, both cash inflows and outflows were estimated on an annual basis. While the former consisted of toll fee income and auxiliary facilities income, the latter included operation costs, selling and administration expenses, income tax, and re- investment in operation equipment. By subtracting estimated cash out flow from inflow, the feasibility study could obtain the net cash flow for each year.

The coverage of debt service by net toll revenues (after paying operation and maintenance costs) during the operation period is the main aspect to be reviewed. By looking at the level of indebtedness and the rate of debt retirement for a start-up toll road, the strength or weakness of operating cash flow can be determined. In the short term, the weak expected cash flow in the ramp-up period can become an issue. The longer-term economic viability and cash flow strength, however, can suggest the possibility of providing the project with a government sponsored long-term line of credit, which would give the project time to outgrow its early year cash flow vulnerabilities. There is a strong possibility that this line of credit could elevate the project’s senior lien bank debt into a low investment rating grade category from the time of issuance. The tax burden was also checked by comparing the tax rate applied to the project with other countries. As a result, the high tax burden by world standards was pointed out as one of the risk factors.

4.3. Lessons Learned and Discussions

First, the methodology in the feasibility study was standardized. Every component of the analyses was included in the feasibility study and the data used was reliable for its public confidence. Conducting a feasibility study at this level requires significant amounts of time and cost. From the asset management company’s perspective, however, it was necessary to review the feasibility study to validate it instead of conducting it itself. Therefore, Korean asset management companies mainly check the adequacy of the methodology.

Second, internal human resources were equipped with capacity and experience not only in financial analysis but in industry and technology. In reviewing the feasibility study, the knowledge and experience in industry and technology was necessary. Korean asset management companies were therefore using internally hired engineers. Often, they 228

Strengthening Economic Development Planning and Infrastructure Funding for Mongolia took advantage of a network in the field to obtain hidden information that was not in the feasibility report and made good use of it.

Third, decision-making was done in a comprehensive way by experts from various fields. Members of the internal investment committee included high-level managers in different departments and branches. Collective decision-making by the committee prevented the risk of certain areas from being overlooked.

Fourth, although not mentioned above, the work of the asset management companies involving infrastructure was closely related to the policy direction of the government. The asset management companies dealing with infrastructure projects actively participated in the solicited projects and made suggestions for policy making whenever there was an opportunity. The government’s attitude was also not to be harsh and was acceptable to companies for the purpose of the timely provision of public services through constructing infrastructure. 5. Policy Suggestions

5.1. Suggestions for the DBM AMC

Based on the above discussions, the general recommendations are summarized below:

As an investment arm of the Government of Mongolia and due to the duality of its mission, the DBM AMC will have to look into a project’s contributions to economic development and social benefits as well as its investment returns. Therefore, the DBM AMC must have an adequate level of capacity to appraise both the socio-economic and the financial and economic outcomes of a project. Moreover, due to Mongolia’s development phase and its large infrastructure needs, it can be safely anticipated that most of, if not all, the DBM AMC’s involvement will be in infrastructure projects, mainly PPP-type projects.

In order for the DBM AMC to structure and allocate the risk and costs of projects more effectively, the DBM AMC must avoid BT types of projects and focus on more classical PPP- type projects instead. Due to its rather straightforward structure and relatively short period 229 Chapter to launch BT-type projects, it might prove tempting to proceed this way. But for the purposes of effective investment management and developing domestic capacity will contribute more 04 to the economic development in the long-term. To fulfill these goals, practical measures are Developing and Applying the Project Readiness Assessment and Due Diligence Methodology to be implemented as follows.

First, employ a rigorous and transparent multi-staged feasibility process. This will not only increase the accuracy and reliability of a feasibility study as it passes through the different stages, but will also filter out non-feasible projects early in the process, thus making the validity process much more efficient in terms of time, labor, and money.

Second, develop a clear and comprehensive manual on what makes an acceptable feasibility study, in terms of content, quality, and depth in order to have a unified scope and methodology for feasibility studies. Have clear requirements as to what kinds of questions must be answered and what kinds of methodologies will be used to gauge project viability. The appendix to this report may be useful for coming up with the minimum depth required for a feasibility study.

Third, enhance the quality and ensure the reliability of a feasibility study by employing third-party independent peer reviews during the process. Before the final feasibility study is submitted to the DBM AMC, a peer review process should take place for the pre- feasibility study. Peer reviewers are required to answer the question: Has the study been appropriately prepared? The review must provide (i) a critical review, (ii) the identification of major deficiencies and weaknesses, and (iii) specific recommendations to improve the study.

Fourth, employ a combination of in-house professionals and third-party experts for the purposes of governance, efficiency, and cost saving. The in-house professionals would help the DBM AMC make decisions earlier in the process and oversee the third-party experts in the latter stages of the process.

Fifth, introduce constant improvement mechanism by conducting a before-and- after feasibility study. This mechanism is intended to test previous feasibility studies. In this process, assumptions and forecasts made during the feasibility study preparation process will be gauged against actual data and how the actual data deviates from the forecasts will be examined. Although this practice would have no effect on projects that are already operational, this will provide valuable information and lessons for new projects. This process is for the sole purpose of continuously refining and improving the project preparation process. The practice of tying compensation and accountability to the deviation

230 of actual data vs. forecasted data must be avoided at all costs. Strengthening Economic Development Planning and Infrastructure Funding for Mongolia 5.2. Further Recommendations

Although it may be outside the scope of the DBM AMC’s responsibility, additional recommendations can be made to improve a projects’ viability. We focus on two main factors affecting projects’ viability: socio-economic feasibility and bankability.

First, it is necessary for the Mongolian government to establish a unified public investment management (PIM) system. Under this unified system, a project implementation mode between conventional government procurement and PPP should be chosen using scientific, evidence-based methodologies such as CBA and value for money (VFM) assessment. [Figure 4-10] Standard Example of a Unified Framework for Project Appraisal

Project Initiation

Pre-Feasibility Study No (including a CBA) Decision to Proceed

Yes

VFM Assessment

VFM(PPP) > VFM(PSC) VFM(PPP) < VFM(PSC Decision to Implement Implement Implement by Rejection by PPP Mode Conventional Mode

231

Note: PPP = Public-Private Partnership; PSC = Public Sector Comparator; VFM = Value For Money. Chapter Source: Rajaram et al. (2014), Figure 7.1, p.167. 04

When the division of labor is ideally achieved, the government (such as the Ministry Developing and Applying the Project Readiness Assessment and Due Diligence Methodology of Finance or the NDA) is responsible for the pre-feasibility study and the DBM AMC is responsible for the feasibility study. For the detailed procedure of a pre-feasibility study, we look at the experience of the project appraisal for screening out the inefficient projects in Korea. Korea has established a unified PIM system accommodating both the conventional government procurement mode and PPP mode. The project appraisal system consists of two phases: (a) the decision to proceed and (b) the decision to implement as shown in [Figure 4-10] (For more information in detail, refer to Kim, 2013).

According to Rajaram et al. (2014), the two phases are distinguished as follows:

Decision to proceed (pre-feasibility study): A pre-feasibility study should be conducted to prepare for the decision to proceed and a full preparation in a later stage. Justifying the need for an intervention and setting the objectives for a project are crucial first steps. CBA enables a feasibility assessment of the project from a national economy perspective and gives an early indication of whether a conventional or PPP approach might be feasible. The pre-feasibility study not only assesses whether to proceed with the full project preparation but also pushes the government to invest in more detailed project preparation in advance (Rajaram et al., 2014, p.166).

Decision to implement (value for money [VFM] assessment): If the proposed project appears to be feasible, a VFM assessment would assess the implementation options— conventional versus PPP. Basically, government costs and project inputs of an often-known public sector comparator are compared against those of the projected risk-adjusted costs of a PPP alternative to assess whether the PPP might achieve better VFM. The VFM assessment provides a quantitative VFM comparison between the options and a justification for the decision on the implementation option. It also encourages project appraisers to consider risks early in the project life cycle and address risk transfer options in the bidding process. If the PPP option cannot demonstrate best VFM, the project is implemented by the conventional method, provided it fulfills all appraisal standard. (Rajaram et al., 2014, pp.166-167).

Through this process, the government can first screen socio-economically infeasible projects at the pre-feasibility study phase. Subsequently, the implementation mode between conventional government procurement and PPP can be selected. It is also recommended

232 to review the project appraisal independently. An independent review can be done by a

Strengthening Economic Development Planning and Infrastructure Funding for Mongolia center of excellence such as a research think tank or outsourced to reputable organizations or agencies. It is also important to have close consultations between the DBM AMC and government agencies until sufficient capacity is accumulated to establish and operate such a center of excellence.

Although the pre-feasibility study is centered on socio-economic justification, the establishment of such a unified system that can filter out those projects for financial feasibility is unduly low, which can secure basic requirements for projects’ bankability. From the viewpoint of CBA theory, the main analysis in the feasibility study that financial institutions such as the DBM AMC are interested in is the revenue-expenditure analysis (see Boardman et al., 2011, pp.15-20). The revenue-expenditure analysis builds upon discounted cash flow analysis. In the unified project appraisal system, the pre-feasibility study adopts the CBA to compare “social cost” to “social benefit” but the VFM assessment resembles the revenue-expenditure analysis since its methodology is the discounted cash flow analysis.

Second, to raise the bankability of projects, the Mongolian government should establish a proper risk-sharing scheme. From the risk transfer point of view, optimal risk transfer is attained by the efficient sharing of risks between the government and the (private) project operator. Risk transferred too much to the project operator results in project failure while the opposite case generates no VFM. At present, Mongolia seems to have a very limited number of bankable projects in the pipeline. To enhance bankability, it is worthwhile to share the project risk between public and private partners. Possible promotion measures can be benchmarked from the Korean experience.

Since the enactment of the PPP Act in 1994, the Republic of Korea suffered from a slow PPP market. To overcome this challenge, the Korean government revised the Act to Provide Market Promotion Measures Including Revenue Guarantees and Subsidies. The current government’s supporting measures are summarized in [Figure 4-11].

A construction subsidy is granted mainly to PPP projects associated with user fees. The rationale behind granting the subsidy is to maintain the user fees at a reasonable level. It is granted when the project operator has to charge a high tariff to make a certain level of profit. With the subsidy, the project operator can reduce the tariff while maintaining the level of profit. More actively, the subsidy can be granted to raise the project’s bankability.

The minimum revenue guarantee (MRG) is an effective measure to reduce the project 233 operator’s risk burden by guaranteeing a certain fraction of the project’s annual revenue Chapter when the actual operating revenue falls considerably short of the expected revenue prescribed in the contract (Choi and Seidumanov, 2018, p.49). The MRG was considered 04 Developing and Applying the Project Readiness Assessment and Due Diligence Methodology to be one of the key measures to help attract foreign investment in the period right after the financial crisis hit the country. However, there has been some controversy about the guarantee since the government took most of the demand risks and provided unreasonably high returns to private investors (Choi and Seidumanov, 2018, p.50). Lessons from the MRG in Korea therefore include finding the optimal risk-sharing mechanism is essential for sustainable institutional operation.

[Figure 4-11] ‌Government Supports for Public-Private Partnership Projects in the Republic of Korea

Type Construction Period Operation Period

Authorization Land expropriation right

Financial Support Construction subsidy Compensation for base (raw) cost

Tax Incentives Special taxation, corporate tax, local tax, exemption from charge

Guarantee System Credit guarantee via infrastructure credit guarantee fund

Early Termination Guidelines for early termination

Source: Lee and Zhakin (2018), Figure 3-10, p.147. References

Boardman, A.E., D.H. Greenberg, A.R. Vining, and D.L. Weimer (2011), Cost-Benefit Analysis: Concepts and Practice, Upper Saddle River, NJ: Prentice Hall.

Choi, S. and A. Seidumanov (2018), “A Study on the Improvement of Fiscal Rule of PPP and the PPP Governance in Kazakhstan,” in Economic Stimulation through Expansion of PPPs in Kazakhstan, 2017/18 Knowledge Sharing Program with Kazakhstan, Ministry of Strate- gy and Finance.

Hyari, K. and A. Kandil (2009), “Validity of Feasibility Studies for Infrastructure Construction Projects,” Jordan Journal of Civil Engineering, 3(1), pp.66-77.

J.P.Morgan Asset Management (2015), Infrastructure Investing: Key Benefits and Risks, 4Q2015. 234

Strengthening Economic Development Planning and Infrastructure Funding for Mongolia Kim, J.-H., 2013, Public-Private Partnerships: Lessons from Korea on Institutional Arrange- ments and Performance, 2012 KSP Modularization of Korea’s Development Experience, Ministry of Strategy and Finance.

Lee, J. and Y. Zhakin (2018), “Promoting the PPP Market along with Enhancing Fiscal Efficien- cy: Focusing on Government Support and Project Appraisal,” in Economic Stimulation through Expansion of PPPs in Kazakhstan, 2017/18 Knowledge Sharing Program with Ka- zakhstan, Ministry of Strategy and Finance.

PICKO (2002), PPI Program and Investment Projects in Korea, Korea Research Institute of Human Settlement.

Pike, R. (1996), “A Longitudinal Survey on Capital Budgeting Practices,” Journal of Business Finance and Accounting, 23(1), pp.79-92.

Rajaram, A., T.M. Le, K. Kaiser, J.-H. Kim, and J. Frank (2014), The Power of Public Investment Management: Transforming Resources into Assets for Growth, Washington DC: World Bank Group. Appendix

Checklist for a Good Feasibility Study

The depth of the feasibility study should adequately and convincingly answer the following questions where relevant:

• Project Description – What the project will do? Where it will be located? What will be the capacity of the project, both installed and nominal? What will be the expected completion date? What are the proposed plant capacities, e.g., what are the daily/annual operating schedules? What provisions are there for expansion? What is known about the efficiency of this plant in relation to its scale? How does the scale affect the efficiency of production? Describe the competitive advantages of the project, such as price, quality, proximity to market, marketing arrangements, technical ability, managerial skill, credit terms, etc. 235 Chapter

• The Site and Facilities – Why was the site chosen and what are the reasons for 04

the choice? Were any other alternative sites studied? Why was this particular site Developing and Applying the Project Readiness Assessment and Due Diligence Methodology chosen? The information should include size, topography, and location in relation to urban areas. Show how the project is located in relation to availability of raw materials, utilities, fuel and labor, housing, and its accessibility to its markets. Availability, reliability, price, and capacity and standby capacity of services such as water, power, transportation and waste management must be considered. Indicate the extent to which work will be performed by contractors and/or by project sponsors. Describe any provisions in the layout for further expansion.

• Raw Materials and Supply-side Issues – What are the sources, their supply arrangement and their reliability? Have any contractual agreements, including delivery commitments, been drawn up for the supply of raw materials? The information should include prices and their volatility.

• Labor – Availability and sources; educational standards required; costs of labor, such as wage rates, benefits, etc.

• Technology – Description of processes; ownership of technology and commitment of the owner of the technology to the project; performance guarantees. How well established is the technology in developed countries and developing countries? Why was this particular process selected? Were other possible processes investigated? In the case of used equipment, reliability and valuation issues must be mentioned.

• Implementation – Timing and current status; information on principal contractors and their experience in this environment; performance guarantees. What is the risk that the project will not meet the timetable? How much contingency has been allowed for in the schedule?

• Environmental Issues – Condition of the current site; potential sources of air, water, and ground pollutants and other noxious waste from the project; proposed methods for dealing with each. What facilities exist for waste disposal? Is there suitable adjacent land or water; will transport to dumping areas be available?

• The Products and Services – Description of the product(s) and service(s) being provided, and definitions of the markets in which they will be sold; is the product a consumer good or an industrial intermediate product and directly used in 236

Strengthening Economic Development Planning and Infrastructure Funding for Mongolia manufacturing? Has a market study been undertaken to assess the future growth of demand? What drives the demand for the product? Is the product a commodity or is it a differentiated product? What are the competing and substitute products? Give the volume and value the annual consumption of the products to be made by the project in the market areas of countries where they are expected to be sold.

• Distribution Systems – Methods and channels of distribution; Who controls these channels? Relative strengths of distributors vs. producers? Describe the proposed distribution and marketing arrangement for the products, e.g. will they be an integral part of the organization itself or will this side of operations be handled through a separate organization? Outline the proposed distribution network, including means of transport, wholesale outlets, etc.

• Historical Analysis and Recent Trends – Assessment of market supply and demand, and price data; reliability of historical market data; historical relationship to macro-economic variables such as GDP growth and inflation; historical relationship between product demand and product prices.

• Competition – Principal producers supplying target markets; relative sizes; strengths and weaknesses; relative cost structures of principal competitors, both domestic and foreign; capacity of competition to reduce prices on a sustained basis. How does the suggested price for the project's output compare with the price for the same/similar products at present being sold on the market and/or to industrial plants?

• Management and Institutional Arrangements – Give the background and experience of the organization’s technical staff and consultants, being employed on the project. Who will supervise the construction of the project and what is the length and nature of their experience on projects of this kind? List the key operational officers: names, ages, length of service with the company, and previous experience. Describe the internal organization of the company, giving divisions of departments and the functions of each. Attach an organization chart showing lines of authority. Are adequately trained supervisory and technical staff available, and if not, what additional staff will be needed and what arrangements have been made for their training?

• Legal – Describe any legislation, concessions, franchises, consents, permits, licenses,

etc., required for the project. Describe the government's attitude toward the project. 237

Give a list of privileges, exemptions, and any other advantages to be enjoyed by the Chapter project. Attach decrees and laws regulating the operation of the project. Mention 04 any measures now under consideration by the government that may affect the Developing and Applying the Project Readiness Assessment and Due Diligence Methodology project in the future. 05 Chapter

Support for Project Financing Mechanisms and Investment Fund Operations

238 Younghan Lee (University of Seoul)

Strengthening Economic Development Planning and Infrastructure Funding for Mongolia Takkyung Kim (Korea Development Institute) Dulguun Ganzorig (Development Bank of Mongolia)

1. Project Financing Mechanisms 2. The DBM AMC'S Business Environment Analysis in Mongolia 3. Evaluation of the DBM AMC's Funding Plan for Project Financing 4. ‌Diagnosis of the DBM AMC's Ability to Perform Project Financing through Investment Funds 5. ‌Structuring Plan of the DBM AMC's Function of Fund and Fund Back Office for Project Management 6. Policy Recommendations

Keywords Infrastructure Fund, Project Financing, Asset Management Company, Investment Profitability, Feasibility Study Support for Project Financing Mechanisms and Investment Fund Operations

Younghan Lee (University of Seoul) Takkyung Kim (Korea Development Institute) Dulguun Ganzorig (Development Bank of Mongolia)

Summary

This report is designed to provide useful information and policy recommendation for Mongolian infrastructure fund operations and project financing mechanisms. This report proceeds as follows. In Section 1, the structure of project financing and Korean project financing case are introduced. In Section 2, we analyze the environment of project financing 239 Chapter for infrastructure investment in Mongolia. In Section 3, we examine and evaluate the DBM AMC's plan for project financing, and in Section 4 we diagnose the DBM AMC's ability to 05 perform project financing through infrastructure funds. Support for Project Financing Mechanisms and Investment Fund Operations

In Section 4 particularly we introduce the case of Korea's Infrastructure Fund AMC (KIAMCO Case) and investigate the differences between KIAMCO and the DBM AMC. Chapter 5 introduces the basic principle for the operation of the fund back office for the DBM AMC. In Chapter 6, the policy recommendations for the DBM AMC are presented.

In Mongolia, there is a lot of demand for various infrastructure investments such as mine development facilities and eco-village construction. The DBM AMC is planning to set up investment funds to support large-scale funding of these infrastructure investments. The DBM AMC is required to build overall systems, such as the organization for investment fund management, investment review systems, risk management systems, and operating systems, and develop its competencies.

For this purpose, this study provides analysis on the project financing process and suggests comments on the organization and operating system of the DBM AMC accordingly. It analyzes the DBM AMC's business environment and current situation, compares them with Korean Infrastructure Fund AMCs, finds out challenges of the DBM AMC’s management system for investment funds, and suggests ways to overcome them. In Korea, private investments in public infrastructure began after the introduction of the "Promotion of Private Capital into SOC Investment Act" in 1994 and have increased sharply after it was revised into “The Act on Private Participation in Infrastructure” in 1999. The Cheonan-Nonsan Expressway project was one of typical Korean project financing cases. It is a project financing case based on PPP projects, which have a concession agreement between the government and a private company under the PPI Act. The implications of this case study are as follows: first, independent demand estimation and feasibility studies on the target project must be required from the perspective of the fund provider in the project financing process and second, a suitable financial structure for the target project can be applied by using various financial instruments in line with financial market conditions. By doing so, financial costs can be lowered.

The Mongolian economy has an economic structure that depends heavily on 3Cs (Coal, Copper, and China) and foreign direct investment. The Mongolian economy grew rapidly in the mid-2000s due to the growth of investments in the natural resources sector. However, since 2012, foreign direct investment has fallen sharply due to the deterioration of foreign 240 direct investment environment and the economy has suffered from a sharp decline in the

Strengthening Economic Development Planning and Infrastructure Funding for Mongolia growth rate due to the rise in exchange rates and prices.

Mongolia has the following problems, keeping it from becoming a suitable environment for project financing.

First, there are not enough banks or financial institutions that can provide long-term loans, which are needed for PPP projects. The average maturity of the loans served by commercial banks, which account for large part of the total lending market, is very short. Financial institutions with the characteristics of investing in long-term maturities are mainly pension funds, development banks, and insurance companies, but their market shares are low in the lending market. Second, the underdevelopment of the capital market is a difficult factor for financial investors and infrastructure funds to finance from the capital market. Additionally, the size of the Mongolian stock market is relatively small and funding through the stock market is not yet active.

Since the population of Mongolia is small, it is difficult to secure profitability for infrastructure facilities accompanied by large investments such as roads, ports, and bridges if the investment is recovered only by user fees. In other words, there are limited Market Risk-Taking Type projects that can be conducted. Major problems in terms of the feasibility of projects in Mongolia are the uncertainty of facility fee collection and the lack of government support due to financial difficulties. The Concession Law in Mongolia allows various types of PPP business including BTOs (Build-Transfer-Operate) and BOOs (Build- Own-Operate), but most of the projects that the Mongolian government has signed so far are build-transfer-type projects. In the case of this type of project, the government is burdened with operational risks and it is difficult to reflect the creativity and efficiency of private companies during the construction and operation periods of the project.

However, it is expected that the demand for logistics facilities and electric power for the development and export of mineral resources in Mongolia will gradually increase. Especially, these infrastructure facilities are expected to increase the benefits of the efficient development of natural resources and the advancement of industrialization.

The DBM AMC is currently planning to set up three investment funds and is setting up the NSIF (National Strategic Investment Fund) to explore projects for investment. An important point for attracting fund investors is to design the fund reflecting the investment objectives and investment incentives of potential fund investors. The DBM AMC should be able to articulate to what extent each fund is planning investors' level of fund returns, maturity, risk level, and characteristics. 241 Chapter

In the Mongolian fund regulatory environment, related laws and regulations have recently been enacted and are operating. The Law on Investment Funds was enacted in 2013, 05 Support for Project Financing Mechanisms and Investment Fund Operations and major investment fund-related laws were enacted in 2014. However, fund investors in the Mongolian capital market may feel uneasy due to the lack of experience in managing the rules on investor protection in the Mongolian fund market and the lack of relevant cases. These can be constraints on their investment.

The Mongolian government should overhaul the fund investor protection system and the DBM AMC should find and develop projects that are worth investing in, and with them develop fund products that meet investors’ needs. It is important to understand the needs of the investors who are familiar with well-established investor protection systems and have their own strict investment decision-making criteria.

Overall, the DBM AMC has the organizational structure, rules, and expertise to carry out the project financing process. The DBM AMC also has information on potential projects from the government and the DBM. Since the DBM AMC is a recently established company, it lacks experience in finding bankable projects and funding them. Therefore, it is urgent to build the capacity to carry out project financing. And also, since the outsourcing company market for fund management is not yet active, the DBM AMC should carry out a large part of the work in fund management by themselves. In this study, KDB KIAMCO is analyzed as a successful case among Korean fund asset management companies. KDB KIAMCO was established in 2003 as a subsidiary of the State- owned KDB Bank. KIAMCO is currently one of the largest alternative asset managers in Korea with a total accumulated fund size of approximately USD 15 billion. Key Success Factors for KDB KIAMCO can be summarized as "a reliable cooperation system with external consulting agencies and companies", "making and holding appropriate funds to cope with changing circumstance" and "specialization in specific areas".

KDB KIAMCO has grown with the cooperation and support from the KDB project finance team and reliable cooperative relationships with feasibility study agencies, fund administration outsourced companies, and fund sales companies. AKDB KIAMCO has also built close relationships with KEPCO, power companies, energy companies, and EPC companies. KDB KIAMCO has changed its portfolio of funds according to the changes in legal and market conditions.

In the case of fund administration, the infrastructure of the Korean fund market and

242 the presence of a large number of outsourcing companies for fund administration can

Strengthening Economic Development Planning and Infrastructure Funding for Mongolia greatly increase the fund management capability of Korean infra-fund AMCs. There are a large number of outsourcing companies with licenses in Mongolia as well. However, it is doubtful whether these companies are capable of operating international infrastructure funds successfully. The DBM must select the most trustworthy partners among these fund management companies and entrust the fund administration to these partners with increasing their capacity.

The fund back office conducts transaction processing, settlement, custody, and documentation by checking records, matching instructions, and ensuring processed orders. In developing the DBM AMC's fund back office, the DBM AMC should review its readiness to respond to the fund asset management checklist and follow the best practices of fund management.

We suggest the following to the DBM AMC, the DBM, and the Mongolian Government: First, this study describes the tasks that the DBM AMC should perform in the project investment workflow step by step and presents special considerations. Second, we recommended that the DBM AMC needs to establish a cooperation system with agencies related to project financing, such as construction companies, engineering companies, securities companies, and feasibility analysis agencies in order to provide opportunities for DBM AMC staff to participate in project financing training and participation. Third, we recommended that the DBM AMC make investment decisions in perspective of fund investors, establish investment plans, and provide investment strategies to provide appropriate risk and return to fund investors, and publicize these principles to investors. Fourth, the Mongolian government needs to incorporate support regulations for infrastructure funds into the relevant laws such as Concession laws and investment laws. In particular, the Mongolian government should announce the basic plan for its private investment business opportunities so that private investors can understand the government's policy direction and support regulations related to current PPP projects.

1. Project Financing Mechanisms

1.1. Structure of Project Financing

Project financing is a long-term loan method based on the project's cash flow. It is a way to separate the borrower's creditworthiness from the loan repayment capability assessment, thus, expanding the borrowing capacity of employers and governments planning to build infrastructure facilities. In addition, investment in infrastructure through the infrastructure 243 Chapter funds is more useful for attracting investors because they can effectively manage risks and

returns using portfolio effects. Therefore, this chapter explains the structure of project 05 financing and the outline of infrastructure investment through infrastructure funds. Support for Project Financing Mechanisms and Investment Fund Operations

Project finance is defined as a method of raising long-term financing for major projects based on lending against the cash flow generated by the project alone (Yescombe, 2014). It is a financing method that does not depend on the soundness and creditworthiness of the project sponsors and is determined by the capability of the project to pay the debt contracted and remunerate capital invested at a rate consistent with the degree of risk inherent in the venture concerned (Gatti, 2012). The differences between project financing and corporate financing are as follows.

Main Difference between Corporate Financing and Project Financing

Corporate Financing Project Financing

Guarantees for Financing Assets of the Borrower Project Assets

Reduction of Financial No or Heavily Reduced Effects for Effect on Financial Elasticity Elasticity for the Borrower Sponsors

Customer Relations Main Variables Underlying Solidity of Balance Sheet Future Cash Flows the Granting of Financing Profitability

Depends on Effects on Depends on Cash Flows Degree of Leverage Utilizable Borrower’s Balance Sheet Generated by the Project

Source: ‌Stefano Gatti (2012) Project Finance in Theory and Practice Designing, Structuring, and Financing Private and Public Projects. Elsevier. 3p.

Project financing, unlike corporate financing, is a loan to the project assets, not the 244 assets of the borrower, and has little impact on the financial leverage of the sponsor. Also, Strengthening Economic Development Planning and Infrastructure Funding for Mongolia the most important factor that enables financing is the future cash flow generated from the project’s assets, not the borrower's financial status or credibility. Therefore, the leverage can generally be set higher for the loan structure of the project financing and because of this, it is often used in a large-scale infrastructure development. Infrastructure development requires huge amounts of capital and a long period of time for loan disbursements and repayments. It is difficult to make a loan based solely on the borrower's credit and financial condition. Thus, the cash flow of the project asset itself is collateralized and structured to be able to make loans through various contracts, insurance, and credit enhancement.

The structure of project financing and the relationships among stakeholders are described below. [Figure 5-1] The Structure of Project Financing and the Relationships of Stakeholders

Lender (Bank) Credit Enhancement Insurance Company

Credit Guaranty Disbursement Repayment, Financing Service Fee

ESCROW Expert Group ESCROW Contract A/C Feasibility study Legal Counsellor Technical Consultant Project Revenue and Expenditure Cash flow management

Equity Provide Sponsor Concession Agreement SPC Government Dividend Financial Investor O&M Construction Contract Contract

Operation Construction Maintenance Company Company 245 Chapter Source: ‌Stefano Gatti (2012) Project Finance in Theory and Practice Designing, Structuring, and Financing Private and Public Projects. Elsevier. 3p. 05 Support for Project Financing Mechanisms and Investment Fund Operations Infrastructure project financing involves a variety of stakeholders. The project sponsors promote a project and coordinate the relations with various parties. They are often developers or construction companies. Capital providers that provide funding to special purpose companies (SPCs) are classified as equity capital providers and loan providers. Equity capital providers consist of the sponsors and financial investors, which are financial institutions that seek to long-term profitability such as infrastructure funds or pension funds. The loan providers are banks specialized in project financing.

Credit enhancement agencies are needed to cover the high risk of project financing. Insurance companies and other financial institutions are responsible for risk diversification by providing insurance or guarantees. Professional agencies (credit rating companies or accounting firms), legal counselors, and technology consultants conduct feasibility studies to support capital providers' decision-making by reviewing project costs, accurate estimates of revenue, and operating costs and identifying the technical and legal risk factors. SPCs make construction contracts with the construction company and manage the construction process and operations by making an operation and maintenance (O&M) contract with the company that provides O&M services. 1.2. Project Financing Workflow and Stakeholders

1.2.1. The Major Steps of PPP Projects and Project Finance

The stages and phases of PPP projects involving project financing are as follows. In general, the major steps in PPP projects and project finance transactions are listed below in the order they arise or occur.

The Major Steps in PPP Projects and Project Finance Transactions

Perspective of Step Participants

• Planning of the project • Selection of advisors • Preparation of the bid documents • Determination of the bidding procedures From the • Determination of the pre-qualifications perspective of the • Review of the bid proposal documents Host Country/Off- • Determination of the successful bidder Taker • Negotiation and execution of the Concession/PPP Agreement with the successful bidder • Negotiation and execution of a direct agreement with the senior lender 246 • Monitoring of the project • Effectuation of transactions upon termination of the Concession/PPP Agreement Strengthening Economic Development Planning and Infrastructure Funding for Mongolia

• Search for an appropriate project • Consideration of its ability to participate in a specific project • Organize consortium of private sector business operators and finalize a consortium agreement • Preparation and submission of bid documents and proposal documents From the • Discussions with the senior lender regarding project finance Perspectives of • Negotiation and execution of the Concession/PPP Agreement with the host country after Private Sector successful bid selection Businesses • Negotiation and execution of various project agreements • Negotiation and execution of various financing agreements with the senior lender • Performance of obligations prior to project completion • Performance of obligations in relation to operation and maintenance of the project • Effectuation of transactions upon termination of the Concession/Off-take/ PPP Agreement

• Preliminary consultation with private sector business operators regarding the project and review of information regarding the project • Submission of a letter of intent • Further review of information regarding the project • Performance of syndicated loan-related arrangements From the • Preparation and submission of an information memorandum Perspective of the • Review and negotiation of various project agreements including the Senior Lender • Concession/PPP Agreement • Term sheet preparation and negotiation • Negotiation and execution of various financing agreements • Confirm satisfaction of all conditions precedent to the first loan disbursement • Certification of financial completion • Monitoring of the project

Source: ‌Takao­ Higuchi. 2018. Natural Resource and PPP Infrastructure Projects and Project Finance : Business Theories and Taxonomies. Springer. 4p. 1.2.2. Participants of Project Financing

As mentioned above, there are various stakeholders involved in project financing such as the project company that is the subject of the construction and operation contract, the sponsor that initiates the project, the host country’s government, the suppliers and buyers of the project output, and the insurance company that guarantees the project risk, etc.

Participants of the Project Financing Structure

Participants Role

• The public sector: grant approvals for projects in the areas of planning, construction, operation, and environmental considerations. • In the case of infrastructure projects, act as a concession grantor or have responsibility for sector-specific supervisory and regulatory functions. • plays a comparatively subordinate role as a contractual Public Entities partner, issuing licenses, approvals, and so on for concrete projects. • They acts as the principal for the project, with the private sector applying for the award of contractual partner status. • In the role of project developer, the government issues a tender for a project including all the specifications relating to the planned business model, performance standards, financing requirements, and other features for the benefit of the public.

• They act as initiators and principals of the project. 247

• They act as bidders for projects rendered by the public sector. Chapter • Strategic sponsors: this applies in particular to companies operating in areas related to the infrastructure sector, such as construction, energy, or real estate and their customers and suppliers, as well as facility management and other specialist service industries. 05

Equity Providers Support for Project Financing Mechanisms and Investment Fund Operations • Financial sponsor: Insurance companies, pension funds, sovereign wealth funds, and infrastructure investment funds, etc. • Financial sponsors do not generally become involved in projects at an operational level and have no performance-based project interests or tasks. • They seek primarily to achieve an adequate return on the capital.

• They act as a provider of capital, provide consultation on and support for project and risk Commercial Banks analysis, structuring, placement of capital with investors

Development • Development banks perform as creditors for project financing. Banks or Financial • Development banks place value on promoting the economy or social considerations when Institution making lending decisions.

• They are the parties contracted with the construction of the asset. • It is vital to find a reliable and experienced partner that can guarantee the scheduled completion of the project as well as the desired technical quality. • They typically assume all risks relating to the construction of the asset, particularly with General Contractors respect to the contractual completion at the agreed cost and the construction quality, in accordance with a turnkey or EPC (engineering, procurement, and construction) contract. • Accordingly, the general contractor bears considerable responsibility for the functionality of the project assets.

The Operator • They perform operational management of the project after commissioning.

The Suppliers and/ • Long-term fixed supply and purchase agreements are required to ensure that the project or Customers of the company will be provided with the necessary raw materials, primary products, and services Project for acquiring the planning of future cash flows.

Source : Weber.‌ B, M. Staub-Bisang, and H. Alfen. 2016. Infrastructure as an Asset Class : Investment Strategy, Sustainability, Project Finance and PPP. 2nd Edition. Willey. 305-306p. 1.2.3. Project Development Stages and Structure

In this section, the Infrastructure Fund AMC, which is planning to invest in project financing projects, describes the tasks of the project development stages.

First, when information on the project is collected, the Infrastructure Fund AMC reviews whether the investment opportunities that fit their investment principles and strategies. As an example of Infrastructure Fund AMC's investment strategy and objectives, MKIF (Macquarie Korea Infrastructure Fund) AMC's investment strategy and goals are as follows:1

① We‌ actively utilize our capacity as an asset management company to discover promising infrastructure assets.

② We invest in projects that increase the value of the company's entire portfolio.

③ We‌ invest in the various infrastructure assets and all the staged infrastructure assets allowed by the PPI Act.

248 ④ We‌ invest in project developers who can be provided with various forms of

Strengthening Economic Development Planning and Infrastructure Funding for Mongolia government support provided under the PPI Act.

⑤ We invest heavily in loans, unlisted bonds or equity and equity linked securities.

‌⑥ We‌ invest in infrastructure assets those revenues are linked to inflation in the long term.

⑦ We‌ invest in projects that provide opportunities to maximize the company's financial return through leveraging or refinancing.

⑧ We‌ invest in projects that can provide expected returns or higher returns that correspond to the investment risks inherent in a particular infrastructure asset.

⑨ We‌ invest in project developers who can exercise significant influence in project operations and control strategic, commercial and financial functions.

If the project is identified as a project that meets the investment strategy and investment objectives of the Infrastructure Fund AMC, then project assessment will be implemented.

In the Project Structure Assessment phase, the AMC reviews whether the project is socially and economically in need of investment and whether the project financing structure is properly structured. The AMC should review the technical feasibility of the project, the possibility of funding it, and the ability of the project sponsor. In addition, the AMC should

1 Macquarie Korea Infrastructure Fund Investor Relation Report (2006). review the financial feasibility of the project, the estimated revenue, the operating costs of the project, the return on investment, and the likelihood of repayment of borrowings.

Of course, the AMC will have difficulty carrying out these analyses directly and accurately in the project development stage, and reviewing the feasibility analysis reports and documents provided by project sponsors, lenders, and the government. If necessary, the AMC may employ independent experts to conduct independent feasibility analyses.

[Figure 5-2] Structure of Project Assessment in the Project Development Stages

• Economic, social and strategic feasibilty analysis of the project Project Structure Assessment • Analysis of project structure - Analysis of each stakeholder's relationship and related contracts and agreements

• Assessment of technological feasibility 249 • Analyzing and evaluating the appropriateness of the

Assessment of Technological Chapter investment cost scale and investment funding plan Feasibility and Funding • Evaluation of investor's ability - Evaluation of Possibility possibility of investing money, status of business 05 owner and managerial ability, Support for Project Financing Mechanisms and Investment Fund Operations

• Revenue analysis of project - Traffic demand forecast, Power supply contract analysis, etc. Assessment of Financial Feasibility • Analyze the operationg costs of the project • Profitability analysis - Analysis of Operating Profit margin, profitability analysis of Net income, business IRR, investor ROE, etc. • Analysis of cash inflows - Preparation of pro forma cash statement and possibility of repayment of borrowings • Sensitivity Analysis

Conclusion

Source: Macquarie Korea Infrastructure Fund Investor Relation Report. (2006).

Also, at this stage, the AMC should analyze the legal and regulatory problems and the tax issues of the project. It also must analyze the contract structure to determine how the various risks of the project are distributed to stakeholders. 1.3. Analysis of a Korean Project Financing Case

1.3.1. The PPI Act of Korea

The Korean economy suffered from insufficient SOC infrastructure, but had difficulty increasing government spending for sufficient amounts of investment. To address this problem, the Korean government enacted the Promotion of Private Capital in SOC Investment Act in 1994. The purpose of this act was to mitigate government budget constraints and promote private participation in infrastructure. It established a legal foundation to attract private participation for SOC infrastructure investment cases.

In 1999, the Promotion of Private Capital in SOC Investment Act was changed to the Act on Private Participation in Infrastructure (the PPI Act). The purpose of the amendment was to further promote investment following the global financial crisis in 1998. This act enabled a risk-sharing framework by guaranteeing minimum revenue for operations facilities. In 2005, the PPI Act introduced the BTL model, extending the scope of infrastructure covered by this law to schools, military accommodations, and other living facilities, and providing 250

Strengthening Economic Development Planning and Infrastructure Funding for Mongolia a legal basis for infrastructure funds to invest. The range of investors in PPP projects expanded with publicly raised infrastructure funds.

History of PPI Act

Enactment Revision Revision Aug. 1994 Jan. 1999 Jan. 2005 The Act on Promotion of Private The Act on Public-Private The Act on Public-Private Capital into Social Overhead Partherships in Infrastructure Partherships in Infrastructure Capital Investment

• Government support measures • Introduction of BTL (Build- • Introduction of PPP legal • Risk sharing mechanism Transfer-Lease) method framework (Minimum Revenue Guarantee) • Diversification of PPP project • Unsolicited project proposals facility types

Source: Hahm, 57p.

In 2008, the PPI Act was revised so that the strict supervision of BTL projects by the National Assembly could be implemented and the submission of a total budget and reserve budget of a BTL project in advance was also required.

The number of PPP projects and the investment amount have continuously increased since 1994, when the legal grounds for the PPP system were established. The investment amount for PPP projects has started to increase significantly since 1999 as a result of the introduction of unsolicited project proposals and the minimum revenue guarantee (MRG). It increased greatly again from 2005, when the BTL method was first introduced. The government subsidized the operating income through the MRG system until the basic plan for the private investment project was revised in October 2009.

Basically, the MRG system is a way for private participants and governments to share the demand risk. The upper and lower limits of revenue are set in the concession agreement. If the operating income goes beyond the upper or lower limit, the government will pay or return the difference. Since 2009, the government has guaranteed an amount equivalent to the cost of the project, which is calculated as the sum of the private investment and the interest on the government bonds, but only for government-proposed projects.

Currently, the Act on PPP in Korea provide the following legal basis.

• The purpose of the Act is to contribute to the development of the national economy by encouraging the creative and efficient expansion and operation of infrastructure by promoting investment from the private sector. • PPP projects shall be conducted in one of the following methods: ① BTO, ② BTL, ③ BOT, ④ BOO, ⑤ other methods presented by the private sector; and ⑥ other 251 Chapter method presented by a competent authority. • “Master plans for PPPs facilities project” must be prepared annually by Central 05

Government and include matters concerning estimated investment amount, Support for Project Financing Mechanisms and Investment Fund Operations construction, feasibility study, the profits of the concessionaire, user’s fee, government subsidies, eligibility of the concessionaire of solicited projects. • Effective feasibility studies and negotiations on concession agreements of private investment projects shall be conducted by a professional PPP-dedicated organization, PIMAC (Public Investment Management Center for Infrastructure Facilities). • The establishment of “a company which specializes in investments and financing for infrastructure facilities” also known as an infrastructure fund.

1.3.2. The Cheonan-Nonsan Expressway Project Case

This section introduces the project financing case of the Cheonan-Nonsan Expressway project as a typical Korean project financing case. The project was a PPP project based on the PPI Act to build an expressway connecting Cheonan city and Nonsan city in southwest Korea. The construction started in December 1997 and it was completed in December 2002. Compared to the adjacent Gyeongbu Expressway, it shortened the distance by 30 km and the travel time by 30 minutes. As a result, this road has made it possible to reduce the chronic congestion on the Gyeongbu Expressway. [Figure 5-3] Cheonan-Nonsan Expressway Location Map

252 Strengthening Economic Development Planning and Infrastructure Funding for Mongolia

Source : PPI Program and Investment Projects in Korea. PICKO. 2002.

This project’s outline is as follows.

Main Features of the Cheonan-Nonsan Expressway Project

Characteristics and Roles

Route Cheonan city – Nonsan city

Length 81km

No. of Lanes 4 lanes (Breadth 23.4m)

115 bridges: 14,407 m; 2 tunnels: 2950 m; 6 IC; 2 JCT Main Facilities - 2 main toll booths; 6 branch toll booths; 1 O/M office; 4 rest areas

Concession Type BTO (Build-Transfer-Operate)

Operation Period: 30 years (2003 ~ 2032)

1.4386 trillion KRW Total Budget Private financing cost : 1.0199 trillion KRW Government support : 418.7 billion KRW

SPC Cheonan-Nonsan Expressway Corp. (Initial investor) (Construction companies: 12 companies including LG E&C, Kumho Industries

Source: PPI Program and Investment Projects in Korea. PICKO. 2002. In the case of Cheonan-Nonsan Expressway project, a MRG was applied by the PPI Act. The MRG in the original agreement was 90% of the estimated toll revenue based on the end of each fiscal year but has been revised to 82% based on the excess ratio.

The project feasibility analysis was conducted by Korea Ratings, a credit rating company, which is a subsidiary of KDB (Korea Development Bank). Although the sponsor’s feasibility analysis results were presented in the process of concluding business proposals and the concession agreement negotiation with sponsors composed of construction company investors and the government, KDB had decided that the feasibility analysis results were not suitable for the project financing purposes because the results of the project proposals presented by the sponsors were likely to be overvalued.

Since the government guaranteed a certain percentage of the demand by the MRG, the sponsor has not suffered from the shortage due to a lack of demand, and can achieve the target rate of return by acquiring the construction profit and selling the stake to a financial investor after construction. Therefore, KDB, a lending bank, needed to review the bankability of this project from a more conservative viewpoint, and requested its feasibility study to be reviewed by Korea Rating, which had experience in the feasibility 253 studies of many infrastructure projects. In order to increase the accuracy of traffic demand Chapter estimation and to ensure reliability, Korea Rating has assigned the traffic estimate to URS Greiner instead of a local consultant. As a result of Korea Ratings' business feasibility study, 05 Support for Project Financing Mechanisms and Investment Fund Operations estimated traffic volume of the project was 60 ~ 70% lower than estimated traffic volume in the concession agreement, so the cash flow estimation and loan conditions for project financing were adjusted accordingly.

There are two characteristics of the project financing of this project. First, it procured large amounts of funds at low interest rates by raising funds through ABS (asset backed securitization) bonds. It combined project financing and ABS techniques. KDB, the main lender of the SPC, borrowed KRW 73billion alone and transferred the loan to the SPV(Special purpose vehicle) to issue ABS bonds. By doing so, an ABS bond was issued reflecting the project finance loan conditions as they were, and this had virtually the same effect as the issuance of long-term bonds by the sponsors.

Second, it implemented refinancing during the operating period. Financing combined with ABSs and project financing allowed us to raise large amounts of money at low interest rates, but the debt issuance of ABS bonds imposed an overly stringent debt covenant. As a result, interest payments to subordinated creditors were delayed and excessive idle cash was reserved to the SPC. By refinancing to take advantage of lower market interest rates and ease these debt covenants, investors have been able to increase the profitability of subordinated bond investors and equity investors. There are two main implications from this case. First, independent demand estimations and feasibility studies are required from the perspective of the fund provider in the project financing process. The actual traffic volume of the Cheonan-Nonsan Expressway was about 60% of the traffic volume proposed by the sponsor during the Concession Agreement, and the government would have to pay a subsidy every year for the shortage of demand in accordance with the MRG agreement. However, independently estimated project traffic during the project financing process was similar to this actual traffic volume, so project financing lenders were not significantly exposed to the demand risk.

Second, the financial structure can be designed using various financial instruments according to the situation of the fund market, so that financing costs can be lowered. In addition, refinancing can be carried out to optimize the financial structure according to changes in the market interest rate.

1.3.3. Legal Framework of Infrastructure Funds in Korea

Infrastructure funds in Korea are established in the form of investment trusts and 254 investment companies, most of which are investment trusts. Infra funds are available in

Strengthening Economic Development Planning and Infrastructure Funding for Mongolia both public and private closed funds. Most of them are private closed funds because they are easy to set up and operate.2 Most of the infrastructure funds are based on investment funds regulated by the Capital Market Act, but SOC Investment companies are separately defined in the Korean PPI Act. Investors can utilize leverage effects in SOC Investment companies and investor protection regulation exists in that vehicle regulation in Korean PPI Act. MKIF, Korea's only public offering fund, was established on the basis of investment in SOC Investment companies in the Korean PPI Act.3

Infrastructure funds are divided into project type and blind type, depending on whether the investment target is set before funding. The main characteristics of the project type and blind type are as follows.

2

describes the common characteristics of Korean infrastructure funds. 3 shows the main features of SOC Investment companies regulations in the Korean PPI Act. Blind Type vs. Project Type in Investment for Infra in Korea

Classification Blind Fund Project Fund

• Set without predetermined investment target • Invested when a good investment target • Fund that takes the form of recruiting Definition is secured investment funds after specifying the • Capital call: provide investment funds investment targets through capital increase whenever necessary

• Be useful for securing good investment • For investors, easy to judge the targets because funds are secured in appropriateness of the investment Pros advance conditions and is less dependent on the • Can achieve diversified portfolio fund manager investment

• For investors, there is uncertainty about • Insufficient information on individual the assets to be invested, so they are Con businesses or investment management highly dependent on the fund manager’s firms can lead to high investment risk reputation

Source: PIMAC.

The blind funds are mainly used before the accumulation of network or know-how among the investment manpower for investors in the early stages, and the time and 255 Chapter experience are accumulated to some extent, project funds are used more. In Korea, the BTL projects mainly were invested in the form of blind funds because the business characteristics 05

of BTL projects are similar and the portfolio effects are available. Support for Project Financing Mechanisms and Investment Fund Operations

Most SOC infrastructure PPI projects, which are funded by Korean infrastructure funds, are managed by BTL or BTO. Prior to the mid-2000s, there were more BTO projects due to the MRG regulation in the Korean PPI Act and high business returns of projects, but the proportion of BTL projects increased due to the abolishment of the MRG and the reduction of high-profit project.

BTO vs. BTL in Investments for Infrastructure in Korea

Classification BTO BTL

From the end-user’s tariffs, capable of paying Difficult to recover investment cost by the end- Project for investment user tariffs Characteristics Toll roads, railways, ports, etc. Schools , water supply, etc.

How to Recover Revenue from end-user tariffs Government facilities rent fees Investment Costs (Beneficiary principles) (Government financial burden)

Tariff Determinant Private investment cost/IRR Total project cost/Business IRR Base (Gov. bond + small premium)

Low risk: Revenue provided government (rental Common High risk: Cash flow estimation difficulty fees) Profitability/ High return: Common target IRR about 10% Low return: Government bond yield + about Risk for Investor 100~130bp

Source: Author's own. 2. The DBM AMC’S Business Environment Analysis in Mongolia

2.1. Mongolian Project Financing Environment Analysis

Mongolia's economy has an economic structure that depends on 3Cs (Coal, Copper, and China) and foreign direct investment. Mongolia is a country with vast mineral resources, and mineral resource exports account for approximately 89% of total exports. Since Mongolia is a landlocked country adjacent to China, trade with China accounts for a large portion of total trade accounting for 63% of Mongolia's total trade.

Economic Performance Measure Trends (2012-2017) (Unit: $ billion, $, %, % change, Million USD) Foreign Year GDP GDP Per Capita GDP Growth Price Index Exchange Reserves

2014 12.2 4,080 7.8 11.0 16.5 256 2015 11.7 3,839 2.3 1.9 13.2 Strengthening Economic Development Planning and Infrastructure Funding for Mongolia

2016 11.1 3,571 1.0 1.1 12.9

2017 11.1 3,489 5.1 6.4 30

Source: Asian Development Bank. (2017) Mongolia, 2017–2020 —Sustaining Inclusive Growth in a Period of Economic Difficulty. 9p.

The Mongolian economy grew rapidly in the mid-2000s due to the growth of investment in the natural resources sector. However, since 2012, foreign direct investment has fallen sharply due to the deterioration of the foreign investment environment, and the economy has suffered from a sharp decline in the growth rate due to the rise in exchange rates and prices. Mongolia applied for the 6th Extended Fund Facility program (2017-2019) in 2017 and was approved by the IMF board in May 2017. Through this program, Mongolia received $ 5.5 billion worth of financial support.

The financial market of Mongolia is relatively fragile and dominated by the banking sector, which accounts for 95 percent of its total assets. The banking sector consists of 13 local commercial banks, of which 12 are private banks and one is a State-owned bank. In addition, the Development Bank, a non-deposit taking State-owned policy bank, has been operating since 2011 to finance large-scale projects and programs that are prioritized by the government. No foreign bank currently operates in Mongolia, although developing a legal framework that enables the operations of foreign banks is under discussion. Non-banking financial institutions, such as insurance companies, savings and credit cooperatives, micro- finance institutions, and securities firms hold less than five percent of financial market assets although the number of these institutions remains high.

Financial System – Market Share (Unit: MNT, %)

2016 2017 2018 Q3 Financial Assets % of Assets % of Assets % of Institutions Number (bn Total Number (bn Total Number (bn Total MNT) Assets MNT) Assets MNT) Assets

Banks 15 30,183 96,2 15 32,517 95,7 15 34,757 95,0

Commercial 14 25,338 80,7 14 28,773 84,7 14 31,154 85,2 Banks

Development 1 4,845 15,4 1 3,744 11,0 1 3,603 9,9 Bank

NBFIs 877 1,200 3,8 893 1,459 4,3 900 1,818 5,0

Micro- Finance 518 787 2,5 534 969 2,9 540 1,202 3,3 Institutions 257 Savings Chapter and Credit 280 113 0,4 290 153 0,5 288 192 0,5 Cooperatives 05 Insurance 17 208 0,7 17 245 0,7 18 327 0,9 Support for Project Financing Mechanisms and Investment Fund Operations Companies

Securities 62 92 0,3 52 92 0,3 54 97 0,3 Firms

Total Financial 892 31,383 100 908 33,976 100 915 36,575 100 System

Source: ‌Information obtained from the Bank of Mongolia, the Financial Regulatory Commission of Mongolia, and the Development Bank of Mongolia (2018).

Other than the financial institutions mentioned, the presence of institutional investors is limited to a few registered private funds, most of which invest in real estate assets or are inactive. There are no state or private pension funds that are substantial enough to provide long-term financing in the market as the regulatory framework is still absent. Because the financing provided by the commercial banks and NBFIs is short-term in length and the capital market is underdeveloped, Mongolia lacks long-term financing sources to invest in long-term products such as infrastructure considering the fact that it takes more than 10 years to realize the return.

2.1.1. Bank Financing

With the banking sector predominant in the financial sector, the main source of business financing comes from banks. However, the concentration is high among the commercial banks with the top four banks constituting 78 percent of total assets in 2017. At the end of 2018, bank lending represented 52.1 percent of total assets and it has increased more than five times since 2010, from MNT 3.3 trillion to MNT 17.2 trillion. They are limited from lending higher than a predetermined prudential ratio set against their equity.

[Figure 5-4] Commercial‌ Banks’ Market Share, Outstanding Bank Loans, and Credit Growth (2010-2018) (Unit: %, MNT Trillion)

Total assets

20 100% 73 17.23 Other banks 80 Khanbank 15 54 13.62 22 12.50 12.42 60 25 11.71 10 24 27 40 23 10.77 16 258 5.64 6 10 20

Strengthening Economic Development Planning and Infrastructure Funding for Mongolia 5 6.99 -6 Khasbank 3.27 0 11 Trade and 0 -20 development 2010 2011 2012 2013 2014 2015 2016 2017 2018 Golomt bank bank 18 24 Loans outstanding Credit growth

Source: ‌Information obtained from the Bank of Mongolia, the Mongolian Statistical Information Service, and financial statements from commercial banks (2018).

Bank credit increased sharply in 2011 and 2013 by 73 percent and 54 percent respectively although banks stopped lending in 2015 due to the crisis. Credit growth resumed in 2017 as the economy rebounded and in 2018 credit grew substantially by more than 20 percent.

About half of the total loans are to the private sector, amounting to MNT 8 trillion in 2018. The growth in private sector loans declined substantially in 2014, followed by a negative three percent in 2015, as with household loans. Since 2016, the growth of household credit has surpassed that of private sector credit, resulting in the share of private sector loans in total loans shrinking from 57 percent to 46 percent in 2018. This explains why banks are shifting toward issuing more consumer, salary, and pension loans than business loans. [Figure 5-5] Status of Private Sector and Household Loans Outstanding in Mongolia (2010-2018) (Unit: MNT trillion, %)

10.00 79 9.06 80 65 7.96 8.00 57 60 6.81 51 50 6.62 6.41 6.64 6.72 5.71 5.69 6.00 39 25 5.04 40 4.67 35 26 6.00 22 4.00 3.06 18 17 20 2.45 10 13 1.85 3 2.00 1.37 3.833.10 -3 4 0 -12 0.00 -20 2010 2011 2012 2013 2014 2015 2016 2017 2018

Private sector loans outstanding Household loans outstanding Private sector credit growth Household credit growth

Source: Information obtained from the Bank of Mongolia and the Mongolian Statistical Information Service (2018).

Commercial bank loans had an average maturity of 2.6 years with average annual interest rates of 17.2 percent in 2018. Most lending is concentrated around five sectors of the economy- trade, real estate, construction, manufacturing, and mining- that account 259 for 50 percent of total lending excluding the consumer loans. Approximately 14 percent of Chapter loans were issued to wholesale and retail trade, 11 percent to real estate, nine percent to construction, eight percent to manufacturing, and seven percent to mining. 05 Support for Project Financing Mechanisms and Investment Fund Operations

[Figure 5-6] ‌Trend of Interest Rates and the Proportion of Commercial Bank Loans by Sector (2010-2018) (Unit: %)

Agriculture, 1.9 Mining, 7.2 19.5 19.1 20.0% 18.6 17.9 18.2 18.3 Other 17.4 Manufacturing 18.0% 17.2 services, 8.5 18.4 15.5 16.0% Construction, 13.5 8.8 14.0% 12.9 13.0 12.6 12.7 Consumer 12.1 12.0 11.6 loan, 25.7 Wholesale 12.0% 10.5 and retail trade, 14.1 10.0% 2010 2011 2012 2013 2014 2015 2016 2017 2018 Transportation Finance and and storage, Real estate, insurance, 2.0 10.7 2.7

Source: Information obtained from the Bank of Mongolia and the Mongolian Statistical Information Service (2018).

The DDBM aims to finance large-scale projects implemented in strategically important sectors that promote exports and substitute imports and provide long-term low-cost financing. Due to a transfer of its loans to be repaid from the State budget revenue to the MOF to ensure financial capacity and operational independence in 2016, the total assets of the DBM have significantly dropped since 2015 and reached MNT 3.7 trillion in 2017. DBM lending represented 65 percent of the total assets in 2017 constituting MNT 2.4 trillion. Most of the lending is concentrated in four economic sectors- manufacturing, finance and insurance, construction, and mining. Approximately 31% of the loans were issued to manufacturing, 25 percent to construction, 24 percent to finance and insurance companies, and 14 percent to mining.

[Figure 5-7] ‌Total Lending Amount by the DBM and the Proportion of Loans by Sector (2015-2017) (Unit: MNT Trillion, %)

Manufacturing 7.00 6.07 11 Finance and 6.00 1 3 Insurance 4.91 4.84 5.00 14 31 Construction 4.00 3.74 2.94 Mining 3.00 2.43 Transportation 2.00 25 and Storage 1.00 Health and 24 Welfare 260 0.00 2015 2016 2017 Agriculture Strengthening Economic Development Planning and Infrastructure Funding for Mongolia Total asset Power, Gas, Loan outsanding Ventilation

Source: Information obtained from the Development Bank of Mongolia (2018).

DBM loans had an average maturity of 5.7 years, with an average annual interest rate of 7.7 percent in 2018. The average maturity of DBM loans is twice as long as the commercial banking maturity. The DBM has successfully provided a portion of the financing for MAK cement and Mon cement projects, which were implemented through project financing.

2.1.2. NBFIs’ Financing

Nonbank financial institutions (NBFIs) and savings and credit cooperatives (SCCs) remain relatively small compared to the banking sector. Total assets of the NBFIs and SCCs amounted to MNT 1.2 trillion as of end-September 2018 and they provide about four percent of total financial sector lending.

Most of the NBFI lending is to small businesses and micro-entrepreneurs which cannot meet the commercial bank loan requirements, while SCCs provide loan services to low- income, rural households. These people seek loans from NBFIs and SCCs because of the speedy lending process and light or no requirements for a prior credit history, although

their interest rates double banks’ interest rates. NBFI loans have a maturity of up to two years, with an average interest rate of 3.3 percent a month (annual interest rate of 39.6 percent). They are not allowed to take deposits and depend on their equity and borrowings from banks to fund their loans. SCCs can take deposits and are not allowed to provide loans to non-members. SCC loans have an average interest rate of 2.8 percent a month (annual interest rate of 33.6 percent).

[Figure 5-8] Total Assets and Loans Outstanding by NBFIs and SCCs (2016-2018) (Unit: MNT Billion)

NBFIs SCCs 1500 300 1202 969.2 192.3 811 200 1000 787.2 153.1 142.2 638 113.1 102.1 478 84.4 500 100

0 0 2016 2017 2018 2016 2017 2018 Total assets Total assets Loans outstanding Loans outstanding 261 Chapter

Source: Information obtained from the Financial Regulatory Commission (2018). 05

2.1.3. DFI Financing Support for Project Financing Mechanisms and Investment Fund Operations

Multilateral and bilateral development finance institutions (DFI) have been operating in Mongolia since 1991. They have played a significant role in supporting sustainable economic development, reducing poverty, expanding access to financing, and diversifying the economy. The World Bank, IFC, EBRD, ADB, and JICA operate actively through their offices in Mongolia. Out of these institutions, ADB, World Bank, and JICA focus more on raising standards of living and providing technical assistance to the government’s reform strategies, while EBRD and IFC invest and mobilize capital for private sector clients in key sectors of the economy. DFIs have provided USD 2.3 billion for private sector financing through a total number of 93 projects since the inception of their operation in Mongolia. The EBRD and IFC constitute 81 percent of total private financing and the average financing size is USD 25 million. [Figure 5-9] DFI Financing in Mongolia

Total First Year of Number of Number of Percentage No. DFI Financing Financing Projects Sectors (%) (USD million)

1 EBRD 2006 37 6 1,397 60

2 IFC 1997 28 7 495 21

3 FMO 2012 15 3 242 10

4 ADB 2013 6 1 96 4

5 IIB 2017 5 1 55 2

6 EIB 2011 1 1 40 2

Total - 93 - 2,325 100

Source: Official websites of each DFI (2019).

94 percent of the total financing were loans and the remaining six percent were equity injections. Most of the financing is concentrated in four main economic sectors- mining, banking and finance, manufacturing, and construction and real estate. 37 percent of 262

Strengthening Economic Development Planning and Infrastructure Funding for Mongolia the financing were issued to mining, 31 percent to banking and finance, 11 percent to manufacturing, and nine percent to construction and real estate.

[Figure 5-10] The Proportion of DFI Financing by Sector and Financing Type (Unit: %)

Investment Fund 0.8

Service 0.8 6

Telecommunications 1.7

Power and Energy 7.6 Equity

Construction and Real Estate 9.5 Loan

Manufacturing 11.3

Bank and Finance 31.1 94

Mining 36.6

0.0 10.0 20.0 30.0 40.0

Source: Official Websites of Each DFI (2018).

DFIs have financed several projects such as renewable energy (Salkhit, Tsetsii, Sainshand wind farms, desert solar powered ones) and cement projects (Mon cement) which were completed through project financing. 2.1.4. FDI

FDI inflows to Mongolia have had a boom to bust trend over the last decade. From 2008- 2011, the rapid expansion of the mining sector resulted in a sharp increase in FDI inflows. However, after 2012, FDI inflows drastically dropped due to the decline of commodity prices and deteriorating investors’ sentiment, and in 2016 negative FDI inflows of USD 4.2 billion were recorded. Since 2017, the recovering economic situation has resulted in positive FDI inflows and reached USD 1.9 billion in 2018. According to the NDA database, over 12,000 foreign companies with a total investment of USD 17 billion are incorporated between 1995 and 2015. FDI inflows are heavily concentrated on the mining and quarrying sector that represent 71 percent of the inward FDI and more than half of the FDI came from Canada, Luxembourg, and China.

[Figure 5-11] FDI Inflow Trend and the Proportion of FDI by Country (2010-2018) (Unit: USD billion, %)

Japan Australia Others 3 3 9 4.6 4.3 263

Hong Chapter Kong 2.1 1.9 5

1.7 05 1.5 Canada 0.3 United 45 Support for Project Financing Mechanisms and Investment Fund Operations States 2010 2011 2012 2013 2014 2015 2016 2017 2018 6 China Luxem Singapore 10 bourg 7 12

4.2

Source: Information obtained from the Bank of Mongolia (2018).

2.1.5. Capital Market Financing

Since the bank loans are short and mid-term in maturity, the capital market is a market for raising long-term investment. However, the capital market of Mongolia is still in its early stages of development. The equity market has been more of a trading venue for only a few active shares and has not played a huge role in providing financing to the broader economy over the last decade. Out of 59,848 registered companies, only 0.4 percent or 223 public companies are listed on the stock exchange. Considering the fact that most of the listed companies were established as a result of the privatization carried out in the early 1990s, market concentration is high with 0.1 percent of the shareholders holding more than 88 percent of the market. Since 2017, the market has intensified because of successful IPOs and corporate bonds issued. Total market capitalization reached MNT 2.3 trillion in 2018 although the top 10 companies constitute 77 percent of total market capitalization.

[Figure 5-12] Market Capitalization and Liquidity of the Mongolian Stock Exchange (Unit: MNT trillion, %)

3 10.00 2.44 2.35 2.5 2.17 8.0 8.00 1.67 2 1.37 1.80 5.8 1.44 1.47 6.00 1.5 5.0 1.26 4.6 4.00 1 3.3 3.2 3.2 2.4 0.5 1.7 2.00 0 0.00 2010 2011 2012 2013 2014 2015 2016 2017 2018

Source: Information obtained from the Mongolian stock exchange and the Financial Regulatory Commission (2018).

Corporate bonds have not been used as financial instruments by most companies. Until now, a total of 14 companies have issued bonds amounting to MNT 24.6 billion since 2003. 264 The first IPO was issued in 2005 and since then there have been 19 companies issuing Strengthening Economic Development Planning and Infrastructure Funding for Mongolia IPOs and raising MNT 100.5 billion in total. Among the IPO-issuing companies, there are five companies operating in manufacturing, five companies in banking and finance, two companies in IT, two companies in tourism, two companies in mining, and one each in trade, infrastructure, and agriculture.

[Figure 5-13] IPO Status of the Mongolian Stock Exchange

IPO (Unit: MNT billion) agriculture (Unit: %) 10 tourism 40.0 37.3 36.7 35.0 9 trade 30.0 2 25.0 mining 20.0 6 bank and infrastructure 15.0 10.9 finance 9.0 1 10.0 55 IT 2.6 5.0 0.8 1.0 0.9 1.3 2 0.0 manufac 200520062007200820122014201520172018 turing 15

Source: Information obtained from the Mongolian stock exchange and the Financial Regulatory Commission (2018).

As shown in the analysis of the current situation of the capital market and loan market in Mongolia, Mongolia has the following problems in creating a suitable environment for project financing. First, there is a lack of banks or financial institutions that can provide long-term facility loans or infrastructure investment loans. Although commercial banks account for a large part of the total lending market, the average length of maturity for the loans serviced by these commercial banks is short. Financial institutions that invest in long-term maturity are mainly pension funds, development banks, and insurance companies, which are not common in the lending market.

Second, the size of the stock market is relatively small and funding through the stock market is not yet active. This small stock market is a negative environment for financing infrastructure investment by selling stocks of financial investors’ companies or infrastructure funds.

Therefore, the role of government-led development financial institutions such as the DBM, DFIs, and foreign investors is important for Mongolia to vitalize project financing. In particular, DFIs consider not only profitability but also the reason for funding (environment protection, improved living standards, alternative energy, etc.). Therefore, it is necessary to explore a project that meets the requirements of these DFIs. 265 Chapter

The role of the DBM is crucial because in Korea, there were not so many commercial financial institutions that could make a large amount of long-term loans for the project 05 Support for Project Financing Mechanisms and Investment Fund Operations financing of the early private investment projects of the 1990s. At the time, the KDB was the main lender of project financing for several private investment projects, leading the structuring and financing of projects. Increasingly, commercial banks have also invested in infrastructure following the KDB.

2.2. Project Status and Project Problems for Mongolian Central and Local Governments

2.2.1. Background of PPPs in Mongolia

According to the IMF, Mongolia has enormous mineral wealth estimated at 1-3 trillion USD spread over just 3 million people. However, due to its mining-led growth and dependency on global commodity prices, the economy becomes vulnerable to external shocks and trading partners’ economic growth. Thus, it is critical for Mongolia to make mining-led growth more sustainable and diversify the economy into different sectors. As the infrastructure is the foundation of any economy, the focus of the Government of Mongolia has shifted to investments in hard infrastructure facilities including roads, railways, and energy, as well as social infrastructure. However, after a long period of under-investment, the current state of infrastructure is inadequate to meet the needs of economic development and demands for the social welfare of the population. Mongolia ranks in the bottom quartile for the overall quality of infrastructure as evidenced by reports. According to the Global Competitiveness Report published by the World Economic Forum, Mongolia ranked 108th out of 137 countries in 2018. Moreover, it ranked in 129th out of 167 countries based on the Logistic Performance Index aggregated by The World Bank. As a result, substantial public and private investment in infrastructure is needed to further support the economic growth, diversify the economy, and improve the quality of people’s lives.

The Government of Mongolia considered PPPs to be a way to accelerate investments in infrastructure and supported enabling the legal environment for PPPs. The legal framework for PPPs began in 2009 following the adoption of State policy that promoted private sector participation in all sectors. The Parliament approved the Concession Law in 2010, governing all aspects of PPP implementation. It mandated how PPP should be identified, procured, and awarded and defined the roles and responsibilities of each party. The State 266 property committee was first designated as the governing body for the PPPs, however, the

Strengthening Economic Development Planning and Infrastructure Funding for Mongolia responsibility over PPPs has shifted from one government agency to another over the years. Now, the National Development Agency is in charge of implementing the PPP arrangements. Despite its comprehensive nature, however, the Concession Law does not provide for risk allocation, links to public investment planning, public financial management, or the assessment of fiscal risk (The Global Green Growth Institute, 2016).

According to the Concession Law, the granting of concessions is carried out in the following order:

ⅰ) ‌State central administrative authority (NDA) conducts research and prepares proposals on the list of concessions based on the submissions of line ministries;

ⅱ) Government approves the list of concessions for State-owned property;

‌ⅲ) ‌State central administrative authority (NDA) organizes a tender, selects the participants, evaluates project proposals, negotiates terms, and prepares the conclusion to enter the agreement;

ⅳ) ‌Government authorizes the State central administrative authority to conclude the agreement;

ⅴ) State central administrative authority (NDA) signs the concession agreement. In 2010, the government approved the list of 121 concession projects, which was amended and reduced to 51 projects in 2013. As of the end of 2018, 180 projects are on the concession list, 55 of which have been signed. According to the NDA database, 32 projects have been finished or started construction. Although the Concession Law defines several types of concessions such as build-operate-transfer, build-lease-transfer, design-build- finance-operate, build-own-operate etc., 73 percent of signed concession agreements are build-transfer concessions. Due to the fact that this type of arrangement does not involve the private party in the operational phase and allows them to immediately transfer the ownership and operation right to the government, this poses a short-term fiscal risk for the government. Since 2014, there have been concerns over the level of commitment by the government to budgetary discipline.

Because of the sharp drop in global commodity prices, GDP growth fell from 17.3 percent in 2011 to 1.2 percent in 2016. This undermined Mongolia’s macroeconomic stability and in 2016 the budget deficit to GDP ratio even reached 17%. A three-year arrangement with the IMF Extended Fund Facility was approved in 2017 to restore debt sustainability and improve fiscal management. 267 Chapter

[Figure 5-14] GDP Growth Rate and Budget Deficit/GDP Ratio (2010-2019)

(Unit: %) 05 Support for Project Financing Mechanisms and Investment Fund Operations GDP Growth Rate Budget Deficit / GDP Ratio

20% 5% 17.3 0 0% -2 15% 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 12.3 11.6 -5% -4 -4 -9 10% -9 -9 -5 7.3 7.9 6.9 6.3 -10% 5.1 5% -11 2.4 -15% 1.2 -17 0% -20% 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019

Source: Information provided by the DBM AMC (2019).

In 2016, due to worsening economic conditions and budget constraints, the Government of Mongolia issued a resolution to stop granting build-transfer concessions, which are to be repaid by the fiscal budget until 2018, ordered the NDA to halt projects that had not started operations, and implement PPP projects through other concession types without burdening the fiscal budget. 2.2.2. Main Obstacles of PPP Projects

In order to successfully raise capital for the investment funds, it is critical to identify a pipeline of investable projects that can yield sufficient risk-adjusted returns for the investors. In terms of identifying flagship projects in which the investment funds can initially invest, DBM AMC has created a list of 136 projects with its initial information by combining 76 projects in the Investment Program 2018-2021 of Mongolia by the National Development Agency, 64 projects specified in the Booklet of Projects published by the DBM, 14 projects of Erdenes Mongol LLC, and two projects from the other sources while removing any duplication. Based on the projects list, we have collected additional public data on the projects and assessed their readiness and prioritized the projects by their importance.

During the initial screening process, the following issues that projects have in common have been identified:

(1) Issues related to government support and policy:

268

Strengthening Economic Development Planning and Infrastructure Funding for Mongolia • Lack of consistent governmental policy or support - Government support is crucial to the implementation of PPP projects and to attract private sector investors. Some projects have the potential for revenue streams and possible self-financing, but the majority are likely to be feasible only with significant government financial support (World Bank, 2011). Even though the Concession Law of 2010 has provisions about financial support from the government such as loan guarantees, minimum revenue guarantees, partial financing, tax exemptions, and waivers, there is no specific rule as to how the government should provide financial support. It lacks the detailed process, scope, and implementation arrangements such as the inclusion of government payments in the future budget plans. It is assumed that no PPP projects have received financial support or minimum revenue guarantees from the government so far within the legal framework of the Concession Law.

• Lack of appropriate tariff policy – For the PPP projects, the private sector is expected to financially sustain the project based on the revenue from the tariffs it receives to recover its up-front capital expenditure over the life of the project. However, due to the fact that PPP projects often supply essential services in monopoly conditions such as the electricity, gas, water, sanitation, railways, telecommunications, and airports sectors, private participants of such projects are overseen by the government to control tariffs to protect customers from possible abuse of market power (PPP Knowledge Lab). Most of the time, the Government of Mongolia set a tariff that is much lower than the actual cost of delivering the service or products in the aforementioned sectors resulting in difficulty in raising capital for the PPP projects and reducing their ability to generate sufficient revenue to recover the investment. One such example is that most CHPs in Mongolia are operating at a loss because of the low tariffs in the energy sector.

• Underdeveloped or weak legal framework of PPP – The Concession Law of 2010 has been the foundation for PPP project implementation in Mongolia. However, there are certain areas that hinder an effective smooth implementation of the law. The Concession Law does not have any link with the laws on budgets, fiscal stability, and debt management. The participation of the Ministry of Finance in project approval is very limited and there is no guideline on how to include the future government payments to the PPP projects in the mid and long-term budget plans. In addition, recognizing a build-transfer model as one of the PPP arrangements in the Concession Law does not promote an effective private participation and burdens the State budget in the short term. This along with the failure of robust debt management has resulted in fiscal budget instability and halted PPP project 269

implementation in Mongolia. Chapter 05 (2) Issues related to project development: Support for Project Financing Mechanisms and Investment Fund Operations

• Lack of appropriate cost-benefit analysis and related studies to ensure bankability – Mongolia has limited experience in PPP projects and the operational framework for PPP is still in the early stages. Thus, capacity building in the government agencies is essential to the development of PPP projects. Cost-benefit analyses are an essential requirement; however, implementation is limited by a shortage of manpower and skills. JICA and the ADB provided some support and training on evaluating projects for suitability as PPP projects, but in practice, pre-feasibility studies are not commonly used and post-selection justification of projects chosen through political haggling is more common (ADB working paper, 2016). Agreements have been signed for concessions of more than $12 billion, but many projects are effectively dormant while some have taken too long to start construction. Others have recently been cancelled. This points to shortcomings in project readiness and highlights the need to strengthen project development so as to raise project quality. A lack of appropriate preliminary research and assessment leads to weak project feasibility, low demand, and a lack of market appetite and competition. In addition to the main problems aforementioned, GGGI (The Global Green Growth Institute) identified the key risks and challenges of PPP projects divided into three categories in the table below:

The Key Risks and Challenges of PPP Projects in Mongolia

Category Key Problems

Weak legal framework for PPPs (the Concession Law, other associated laws)

Lack of coordination among government stakeholders (between the central PPP authority and line ministries and between the central and local governments, etc.)

Lack of contract enforcement power Legal/Institutional Change in government policies on PPP/concessions and the focal agency affecting investor confidence

Lack of planning/screening and rigorous project assessment in project preparation

Underdeveloped procurement system

Lack of technical guidelines for project preparation and procurement

Lack of competition in bidding 270

Strengthening Economic Development Planning and Infrastructure Funding for Mongolia Operational No mechanism for performance evaluation for performance-based model PPP projects

Weak government capacity to manage complex PPP deals/understaffed focal agency

Lack of qualified private companies to undertake large-scale infrastructure projects

Lack of long term financing in the local financial market

Financial Financial risks relating to interest rate and foreign exchange rate fluctuation

Limited State budget to meet long term payment obligations and/or to fill the viability gap

Source: GGGI, 2019. Green Public-Private Partnerships for Public Infrastructure in Mongolia. p 5.

2.3. Diagnosis of the Determinants of Project Profitability and Risk

The profitability of an infrastructure project is enhanced when there is sufficient end- user demand for the use of the facility or when the demand is guaranteed by procurement or purchase contracts. In terms of profitability, there are two types of PPP projects. The classification criteria for the types are determined by whether the project company accepts market (demand) risk. “Market risk-taking type” describes a project in which the project company actually provides goods and/or services, and receives consideration from the parties who receive the goods and/or services. “Availability fee payment type” can be described as a project which, upon the achievement and maintenance of a certain available condition stipulated under the required level, obligates the off-taker to pay the “full amount” to the project company; and when such an available condition is not achieved and maintained, the payment to the project vompany is reduced by the proportion of the shortage (Takao, 2018).

Since the population of Mongolia is small, it is difficult to secure profitability for facilities requiring many users such as roads, ports, bridges, etc. In other words, there are limited projects that can be conducted as a Market risk-taking type. Additionally, the major problems in terms of project feasibility of projects in Mongolia are the uncertainty of facility fee collection and lack of support due to government financial pressure. Until recently, macroeconomic indicators were unstable in Mongolia, and the IMF's EFF program is being implemented. Therefore, the government cannot afford enough financial support for PPP projects.

The Concession Law in Mongolia allows various types of PPP business including BTO and BOO, but most of the projects that the Mongolian government has signed to date have been build-transfer projects. In the case of these types of projects, the Government is burdened with operational risks and it is difficult to reflect the creativity and efficiency of 271 private companies in the construction and operation process. However, it is expected that Chapter the demand for logistics facilities and the demand for electric power for the development 05 and export of mineral resources in Mongolia will gradually increase. Especially, these Support for Project Financing Mechanisms and Investment Fund Operations infrastructure facilities are expected to increase the benefits of the efficient development of natural resources and the advancement of industrialization.

The lack of population-based demand, the uncertainty of the macroeconomic situation, and the financial difficulties of the government are environments that are not suitable for leading Market risk-taking type project financing. Therefore, the "selection and concentration" of infrastructure projects will be necessary.

In the case of Market risk-taking type projects, it is necessary to select projects with high growth potential of market demand and plan businesses using the project financing method. Among projects with high growth potential, there are many high-risk projects in general. It is therefore necessary to present an effective risk-sharing plan to fund providers. If the fund provider can expect relatively high profitability and can control the risk to a level acceptable to them, they will be willing to invest.

In the case of Availability fee payment type projects, whether a certain available condition stipulated under the required level is achieved and maintained or not becomes an important point; and for this purpose, the certain available condition stipulated under the subjective required level must be something that can be evaluated objectively (Takao, 2018). The off-taker takes on considerable risk for profitability fluctuations, and the project company provides appropriate goods and services through construction and operation of the facility. Thus, project financing for such a project company will also be possible.

3. Evaluation of the DBM AMC’s Funding Plan for Project Financing

3.1. The DBM AMC’s Investment Fund Plan

3.1.1. Planned Investment Funds

The DBM AMC aims to establish investment funds that finance large-scale economic growth projects in line with Mongolia’s Sustainable Development Vision and medium-term development policy. Within this regard, it is planning to establish three separate investment 272 funds focused on mining and infrastructure, green development, and agriculture as set forth Strengthening Economic Development Planning and Infrastructure Funding for Mongolia in the company “Business and Risk Management Plan of 2017-2020”.

[Figure 5-15] Planned Investment Funds of the DBM AMC

INFRASTRUCTURE GREEN AGRICULTURE AND MINING DEVELOPMENT

INVESTING IN LARGE INVESTING IN PROJECTS INFRASTRUCTURE AND INVESTING IN THAT REDUCE POLLUTION MINING PROJECTS THAT WILL AGRICULTURE COMPANIES AND FOSTER GREEN CONTRIBUTE TO THE TO DIVERSIFY THE GROWTH ECONOMY OF MONGOLIA

• Mongolia’s Sustainable development • The fund’s main goal is to develop • The fund’s main goal is to increase vision 2030 emphasizes the develop financial mechanism for green competitiveness of Mongolia by -ment of the infrastructure sector growth and reduce pollution of minimizing its dependence on that supports priority sectors. Mongolia by attracting long-term mining and minerals, and promo • Investment banks have advised that and low-cost financing that supports -ting Mongolia’s cornerstone sector. it is feasible to raise capital in infras green development. tructure and mining sectors in the • /air pollution, soil pollution, renewa frontier market. -ble energy, energy efficiency, green building, green transport, waste ma -nagement, water management etc./

2018 2019 2018 2019 2020 2023

Source: DBM AMC Business and Risk Management Plan of 2017-2020 (2017). The Infrastructure and Mining Fund will finance large-scale infrastructure and mining projects outlined in the government priorities. The fund structure and governance will be defined in conformity with international standards so as to attract foreign private investors and DFIs. The fund placement services are planned to be performed by an internationally renowned bank or financial institution, with a preliminary investment target of $1.5 billion. Furthermore, the fund plans to finance greenfield projects through PPPs as well as brownfield projects and companies with established cash flows.

The Green Development Fund will invest in socially responsible companies focusing on waste and water management, renewable energy, and green transport that aim to reduce pollution and support green development. This fund will contribute to the reduction of air and soil pollution that poses an imminent danger to the welfare of residents in Ulaanbaatar. The Agriculture Investment Fund will invest in agriculture businesses to diversify the economy of Mongolia, increase the competitiveness of the country, and decrease its dependency on the mining sector.

3.1.2. Established Investment funds 273 Chapter

As a pilot investment fund within the scope of the Infrastructure and Mining Fund, the

DBM AMC established National Strategic Investment Fund (NSIF) with an initial commitment 05 Support for Project Financing Mechanisms and Investment Fund Operations of 100 million USD from the DBM in 2018. The NSIF is dedicated to introducing flexible financing mechanisms to the domestic market and providing funding for the financial restructuring of strategic projects in the mining, heavy industry, energy, innovation, and IT sectors. The fund also aims to resolves a common issue of sub-standard or lack of feasibility studies for new projects and underdeveloped projects by providing predevelopment financing to create a portfolio of bankable projects. Ensuring high-quality feasibility studies and predevelopment will allow for the creation of a strong foundation for potential projects. The fund has registered its constitutional documents with the FRC in May 2018 and is currently in the process of screening bankable projects and developing its portfolio.

As part of developing a green financing mechanism in Mongolia, DBM AMC has been working closely with the ADB and Municipality of Ulaanbaatar on the implementation of the “Ulaanbaatar Green Affordable Housing and Resilient Urban Renewal Project”, which is a large-scale redevelopment project that will deliver 10,000 housing units and redevelop 100 hectares of ger areas into eco-districts. In consultation with the ADB, DBM AMC developed a financing scheme where they will establish an Eco-District and Affordable Housing Fund / EDAF/, which will finance housing developers on the supply side and long-term mortgages on the demand side. The fund has currently secured commitments of $75.7 million from the Green Climate Fund. Upon the establishment of the Eco-District and Affordable Housing Fund under the affordable housing and urban renewable project, the ADB will assist the DBM AMC to co-establish a project implementation unit, which will provide technical support for the management of the EDAF. Furthermore, the ADB has planned to provide $2 million in technical assistance with the purpose of providing capacity building to DBM AMC to implement the necessary policy reforms to establish a green financing mechanism in Mongolia.

3.1.3. Plan for Establishing Investment funds

The DBM AMC has identified five key factors for successful fund launches according to international fundraising practices and has outlined the guidelines listed below for the establishment of the investment funds:

i) To‌ identify a pipeline of investable projects that will support economic growth and attract international investors based on reliable sources and information;

274 ii) ‌To cooperate with an international placement agent with substantial experience Strengthening Economic Development Planning and Infrastructure Funding for Mongolia and professionalism, gain experience raising capital for the subsequent investment funds by learning from them, conduct market sounding, prepare marketing materials and other constitutional documents at an international level;

iii) ‌To evaluate international investment funds’ regulatory environment and explore the possibility to domicile the infrastructure and mining investment fund in a country that has sophisticated legal environment and developed fund market;

iv) ‌To manage the fund together with an internationally reputed asset manager that has expertise and a strong investment track record for the Infrastructure and Mining Fund considering that the company has no track record, gain experience and develop our own track record later, and manage the subsequent investment funds as a sole manager;

v) ‌To obtain first investment commitment from the government and the DBM and invite DFIs to participate as anchor investors.

The plan for establishing the investment funds will be divided into preparatory and execution phases. In the preparatory stage we will (i) identify a pipeline of investable projects and select the flagship projects (ii) start cooperation with the placement agent (iii) define the fund objectives, devise a robust fund structure and investment strategy, identify funding sources and start cooperation with the co-manager (iv) initiate cooperation with the fund services such as a custodian, legal advisory, and audit (v) identify potential investors and reach out to them, conduct market sounding and (vi) draft fund constitutional documents. Registering the fund with the relevant fund regulator and marketing it to the potential investors in the execution phase will be carried out in the execution phase.

Plan for Establishing Investment Funds

PREPARATORY PHASE

1. Identify a Pipeline of Projects, and Select Flagship Projects

• Identification of a pipeline of projects;

• Selection flagship projects;

2. Start the Cooperation with the Placement Agent

3. Devise Fund Structure and Investment Strategy

• Assessment of DBM and Government objectives;

• Assessment of investors' requirements;

• Design of an investment strategy; 275

• Design of a best-in-class fund structure based on international standards; Chapter

• Definition of governance options; 05

• Definition of an investment perimeter and set of investment instruments; Support for Project Financing Mechanisms and Investment Fund Operations

4. Start the Cooperation with the Fund Services

5. Market Sounding

• Identification of potential DFI and private investors;

• Preparation of a teaser;

• Interactions with DFI and private investors;

• Revising the strategy and institutional setup;

6. Preparation of Fund Constitutional Documents

EXECUTION PHASE

• Submission of an application and registration with the regulator;

• Fundraising.

Source: DBM AMC Business and Risk Management Plan of 2017-2020 (2017).

Fundraising: The DBM AMC is planning to cooperate with the placement agent in terms of the infrastructure and mining investment fund due to the fund size and its targeted international investor base. The fundraising phase will comprise of the following stages:

- Defining marketing strategy; - Preparation of documents; - Organizing investor meetings; - Negotiating agreements; - Obtaining commitments.

Fundraising Strategies

Marketing Strategy Documentation Pre-Marketing Investor Meetings Closing

• Market • Private placement • Targeted new • Pre-qualify and • Negotiate positioning • Memorandum investors prioritize agreements • Timing and tactics • Presentation • Preliminary • Scheduling and • Obtain Review materials meetings logistics commitments • Investment • Due Diligence • Respond to strategy material requests • Organization • Legal documents • Due diligence • Track record visits • Structure • Questionnaires • Consistent 276 follow-up Strengthening Economic Development Planning and Infrastructure Funding for Mongolia Source: DBM AMC Business and Risk Management Plan of 2017-2020 (2017).

The target size of the Infrastructure and Mining Fund would be USD 1.5 billion (in tranches) due to its investment in the major and large-scale projects, while the Green Development and Agriculture Fund’s sizes are expected to be USD 100 million and USD 300 million respectively. However, based on the market sounding findings and the level of investors’ interests, the fund size would be fine-tuned and is subject to change.

The government meeting minutes No.36 dated July 2nd, 2014 stipulated that the DBM will commit USD 100 million to the investment fund as a first commitment to initiate the first phase of the fund formation. In accordance with the minutes, DBM AMC plans to obtain a commitment of USD 100 million from the DBM and raise the remaining amount from the DFIs, foreign policy banks, and commercial banks & international institutional investors.

Multilateral and bilateral development agencies:

• Key Targets: ADB, AIIB, IFC, EBRD, FMO, DEG, DFID • Motivation for investment: Demonstration of development impact, mobilization of third-party private capital, overcoming infrastructure funding gaps, development of local regulations and knowledge bases • Indicative investment size: $25mm - $50mm Foreign policy banks:

• Key Targets: China Development Bank, Japan Bank for International Cooperation, Korea Development Bank • Motivation for investment: Promotion of home-country industries (through the procurement of capital goods and contractor selection), unlocking funds for large projects where the foreign government is a stakeholder, securing resources for the home country • Indicative investment size: $50mm+

Banks and institutional investors:

• Key Targets: Local banks, SMBC, Standard Chartered Bank, Macquarie, Korea Investment Corporation, Mubadala, Middle Eastern sovereign wealth funds • Motivation for investment: Financial return, improving relationship with the DBM and the Government of Mongolia (primarily for banks, but could also apply to sovereign wealth funds) 277

• Indicative investment size: $25mm - $50mm Chapter

Fund management: ‌The overall process for managing the investment funds consists of 05 Support for Project Financing Mechanisms and Investment Fund Operations the following stages:

- ‌Detailed screening for a pipeline of projects with the assistance of international co- manager or soliciting project proposals; - Performing due diligence; - Making investment decisions; - Monitoring; - Exiting the investment. [Figure 5-16] Investment Decision-Making Process of the DBM AMC

2b

Reject to Accept No Documents

No

1 2 AMU 3 AMU 4 RMU 5 5a Reviewed by Accept Project Evaluate the Project Issue Risk and Legal Reject to Finance Review Documents Yes Yes Investment No Proposals and Issue Investment Opinion the Project Review Committee

Conditional No 2a Yes No Request Yes 5b Additional Documents No Re-Review in Case of 5c Submission of Additional Documents Decision to Finanace or Meeting Certain the Project Conditions

If requlred by fund documents

10 9 AMU 8 7 6 Reviewed by the BOD Monitor Project Exercise of Voting Sign Investment Exit Rights Agreement Yes or Unit Holders No Implementation Meeting of the Fund

9a AMU

Develop Strategy If Contingency Arises 278 Strengthening Economic Development Planning and Infrastructure Funding for Mongolia

Source: Information provided by the DBM AMC (2019).

• ‌Detailed screening for a pipeline of projects: Based on the viability and readiness of the project and the investors’ interest, the Asset Management Unit is in charge of conducting a detailed re-screening of the projects with the assistance of the co- manager regarding the following criteria:

• Whether the projects are consistent with the defined fund investment strategy; • Whether the macroeconomic impact of the project is correct; • Whether the financial return of the project is accurate; • Whether the feasibility and environmental studies are realistic; • Whether the risk mitigation techniques are defined properly; • Offtake / revenue arrangements or long-term contracts with public or strongly- rated private counterpart; • Minimal environmental risk; proposed projects should meet IFC/World Bank/ Equator Principles; • Regulatory backing; ensuring streamlined permitting and bureaucracy; • Access to insurance for political risk exposure; • Minimum size requirements; We also solicit bankable project proposals from the project sponsors that are not included in the pipeline of investable projects aforementioned.

• ‌Performing due diligence: In‌ this stage, the DBM AMC schedules on-site meetings with the implementers of the projects and conduct comprehensive due diligence focusing on the business model, management team, company valuation, products, risk factors, financial statements, and exit options. The Asset Management Unit will be in charge of performing due diligence and issue an investment review. They plan to get assistance from the legal advisors to identify outstanding legal issues and their potential resolutions.

• ‌Making investment decisions: Once the project proves to be commercially viable and has limited downside risks following the completion of the due diligence, the potential investment would be presented to the investment committee and the committee will make the investment decision.

• ‌Monitoring: Although the company will not participate directly in the day-to- day operations of the project implementing company, the company will build a 279

close relationship with the investee company by giving advice on its strategy and Chapter financial management. Its representative could also be appointed in the board of directors of the investee company to vote on decisions such as a CEO appointment. 05 Support for Project Financing Mechanisms and Investment Fund Operations The DBM AMC will provide the fund investors with the implementation process of the projects and their valuation reports in a timely manner.

• ‌Exit strategy: The company seeks to exit an investment through a trade or secondary sale or IPO after holding it for 3-7 years when the project implementation process is completed. Due to the investment size and the lack of buyers, it takes substantial effort and time to sell the project. Thus, we will determine the exit plan before making the investment.

3.2. Assessment of the Possibility of Deal Sourcing and the Domestic Investment Fund Market

3.2.1. Potential Project Deals

As part of the DBM AMC’s plan for establishing investment funds, the identification of a pipeline of investable projects has been carried out. After an initial screening of all the potential projects implemented by both the public and private sectors, 18 projects worth USD 11.2 billion in the energy, railway, and mining sectors were included in the project pipeline, which will be presented to investors as investment opportunities. 3.2.2. The Domestic Investment Fund Market

Legal and regulatory environment: The Parliament of Mongolia approved the Law on Investment Funds on October 3, 2013 and the law came into effect on January 1, 2014. Law on Investment Funds regulates matters relating to the issue of license to investment funds, management of fund assets, the operations of investment funds, safekeeping and registration of fund assets, the disclosure of information to investors, and the operations of regulated entities that provide services to investment funds. Pursuant to the law, investment funds may be established as private or mutual funds for a period of up to 10 years.

Licensed investment management companies with a minimum share capital of MNT 100 million may establish investment funds. Private funds may invest in 12 financial instruments specified in Article 26.1 of the Investment Funds Law, while mutual funds may only invest in five instruments. Investors may invest in the mutual funds only with cash, while private funds can accept cash and other financial instruments if approved by the fund charter. In addition to establishing investment funds, the investment management companies manage their assets on the basis of asset management contracts. The investment funds must engage 280 with the licensed custodian entrusted with the safekeeping of the fund assets and records Strengthening Economic Development Planning and Infrastructure Funding for Mongolia under the custodial agreements.

While the Investment Funds Law aims to provide comprehensive regulations covering a range of issues relating to investment funds such as their establishment, operation, management, supervision, and liquidation, detailed regulations on a range of matters are still in the process of being adopted by the FRC. The FRC has issued the following regulations associated with the investment fund:

1. ‌Regulation on special licensing for investment management activities (January 15, 2014);

2. Regulation on custodian licensing and custodian services (January 29, 2014);

3. ‌Regulation on the establishment of mutual investment funds and licensing for undertaking mutual investment fund operations (May 21, 2014);

4. ‌Regulation on the establishment of private investment funds and registering the founding documents (June 25, 2014);

5. ‌Regulation on mutual investment fund operations and regulation on private investment fund operations (December 10, 2014);

6. Guideline‌ on fund bookkeeping, financial reporting, and NAV valuation (December 09, 2015); 7. Regulation‌ on investment fund asset composition and prudential ratios (June 10, 2016);

8. Investment management companies code of conduct (June 10, 2016);

9. Regulation on fund accounting CPA registration (June 10, 2016).

The domestic investment fund market is undeveloped and limited to a few registered private funds. As of the first quarter of 2019, a total number of 19 investment management companies have been licensed by the Financial Regulatory Commission (FRC) to establish and manage investment funds, and 14 of which have established the investment funds and registered their constitutional documents with the FRC. All investment funds operating in Mongolia are private funds and no mutual fund has been established so far. Due to the new regulatory framework and lack of qualified investment professionals, no investment funds have been able to raise capital in the international capital market.

Licensed Investment Management Companies in Mongolia

No. Name No. Established Investment Funds

1 Exponential Fund Management LLC 1 National Growth Fund (2017) 281 2 Bodi Invest LLC 2 Bodi Absolute Growth (2018) Chapter

3 Virtus Asset Management LLC 3 Virtus Real Estate Fund (2015)

4 Golomt Asset Management LLC - No Fund Established yet 05 Support for Project Financing Mechanisms and Investment Fund Operations

5 Glacier Asset Management LLC 4 Blue Sky Fund (2016)

6 Master Investment Management LLC 5 MVAF Fund (2017)

7 Global Investment Asset Management LLC - No Fund Established yet

8 Ard Management LLC - No Fund Established yet

6 Khan Trust Fund (2016) 9 Nomad Capital LLC 7 Nomad Fund (2016)

10 Ulaanbaatar Asset Management LLC 8 Southgobi Logistics Fund (2017)

11 Mongolia Wealth Management LLC - No Fund Established yet

12 Bat Capital Management LLC 9 Bat Investment Fund (2017)

13 National Asset Management LLC 10 Capital Investment Fund (2017)

14 Silk road Asset Management LLC 11 King Fund (2018)

15 DBM Asset Management LLC 12 National Strategic Investment (2018)

16 One Partners LLC - No fund Established yet

17 Gerege Management LLC -

Source: Information obtained from the Financial Regulatory Commission (2019). Since the Mongolian fund market has not yet been activated, the DBM AMC has had few competitors to date. However, the fact that there are only fourteen established funds and no mutual funds means that the active market has not been formed in Mongolia. This situation will make it difficult for the DBM AMC to find appropriate fund investors. In order for the fund market to be active in the capital market, there should be advantages in terms of regulation and taxation for the investors of the fund. In the case of Korea, the government gave tax incentives through low tax rates and separate taxation on infrastructure fund investors in the early stages.

The FRC has the authority to regulate and supervise investment funds in Mongolia. This includes granting special licenses or registering all the stakeholders that provides services to the investment funds such as custodians, legal firms, audit firms and asset valuation firms. However, institutional and human capacity of those participants is lacking due to the newly established legal framework and underdeveloped investment fund market in Mongolia.

There are currently three banks, Golomt bank, Khan bank, and Trade and Development

282 bank, which received the special license to provide custodian services from the FRC.

Strengthening Economic Development Planning and Infrastructure Funding for Mongolia According to the Law on Investment Funds, the custodian takes into its custody assets of the investment funds, to exercise supervision over management of the fund’s assets and the accuracy of the investment fund’s net asset value, etc. As of the end of 2018, there are 23 asset valuation companies, 57 audit companies, and 27 legal firms, which have permits to

render services to the capital market participants and are thus registered with the FRC.

3.3. Analysis of the DBM AMC’s Funding Plan

The DBM AMC is currently planning to set up three investment funds and is setting up an NSIF to explore projects for investment. The fact that the company is planning to design the fund structure and governance according to international standards will have a positive impact on attracting global investors.

An important point in attracting fund investors is to match the characteristics of the fund with the investment objectives and investment incentives of potential fund investors. The DBM AMC should be able to articulate to what extent each fund is planning investors' level of fund returns, maturity, risk level, and characteristics. In other words, in order to recruit fund investors and operate the fund, it is necessary to recognize the risk and profitability preferences required by the potential fund investors and to propose fund management strategies for them. Foreign investors, in particular, should be presented with an acceptable risk level as well as a return on investment and an exit plan. However, in the case of DFIs, it may be important to meet the legitimacy of investments and their policy direction. In particular, regarding investment funds related to environmental factors, it is necessary to present not only the profitability of the investment but also the estimated result of the investment expectation effect (environment improvement effect). Achieving policy goals such as improving the environment or the quality of life of people in developing countries is a Key Performance Index of investments for DFIs.

Korea's infrastructure funds attract investors due to the fact that they are long-term investment alternatives with moderate risk and return. Investors in Korea invest in infrastructure funds not because they are SOC facility investment funds, but because they provide the desired level of predictable profit and risk.

Within the Mongolian fund regulatory framework, laws and regulations have recently been enacted and are now operating. In the early days of regulation introduction, regulated persons will explore how the laws are actually enforced and what cases are revealed. The reason why the fund market has not been activated yet is because investors may still think 283 there is uncertainty about the regulations. Fund investors in the Mongolian capital market Chapter may feel uneasy due to the lack of experience in managing the rules on investor protection 05 and the lack of relevant cases. This can be a constraint on their investments. Support for Project Financing Mechanisms and Investment Fund Operations

Therefore, the DBM AMC should promote to investors as much as possible that it is well equipped with its own rules for investor protection and the due process of investment review. In particular, it is necessary to use public trust as a subsidiary of the DBM. KIAMCO was able to facilitate the initial investment attraction in Korea because it had the credibility to protect investors as a subsidiary of KDB at the beginning of the introduction of infrastructure funds and conducted strict investment examination from the viewpoint of investor protection.

For the time being, the DBM AMC has to carry out a large part of the activities for the management of funds by itself without help from the outside consultants due to their lack of experience consulting to fund management companies. 4. Diagnosis of the DBM AMC’s Ability to Perform Project Financing through Investment Funds

4.1. Identification of the Current DBM AMC’s Organization, Human Resources, and Work Description

DBM Asset Management is a wholly owned subsidiary of the Development Bank of Mongolia established on August 23, 2017 and dedicated to providing asset management services in a purely commercial manner in accordance with all relevant rules, standards, and regulations of the Financial Regulatory Commission. The company governance structure strives toward achieving global good governance standards such as the Principles of Corporate Governance issued by the OECD. The company BOD is comprised of five members, with a representative from the DBM and the Ministry of Finance as well as an independent member and exercises full authority in accordance with the “Operational and Special Licensing Guidelines for Asset Management Companies” approved by FRC Resolution No.8 of 2014. The company BOD approved the Corporate Governance Guidelines by Resolution 284

Strengthening Economic Development Planning and Infrastructure Funding for Mongolia No.27/18 on September 14, 2018.

[Figure 5-17] Governance Structure of the DBM AMC

GOVERNMENT OF DEVELOPMENT MONGOLIA BANK OF MONGOLIA

Board of Directors

Members-3 Independent members-2

Source: DBM AMC-related documents.

The following company structure was approved by BOD Resolution of the Development Bank of Mongolia No.66 dated August 23, 2017. [Figure 5-18] Organization Chart of the DBM AMC

SHAREHOLDER’S MEETING (DBM BOD)

Chairman of Board & General Director BOD Internal Audit Investment CEO

Investment Risk Deputy Director

Asset Risk Fund Operations Management Management Development Unit Unit Unit

Source: DBM AMC-related documents. 285 Chapter According to the company’s Business and Risk Management Plan 2017-2020, the company is comprised of the following four units in charge of completing front office and back office 05 Support for Project Financing Mechanisms and Investment Fund Operations duties, which will be separated by a Chinese wall.

• Fund Development Unit is in charge of front office duties, which will include developing fund investment strategies, carrying out research on the possible investment funds for establishment, and financing and finalizing the predevelopment of potential projects. The unit is also tasked with attracting capital to the investment funds such as reaching out to the potential investors, preparing information memorandums and other marketing materials, and setting requirements for fund service providers such as custodian banks, legal counsels, audit authorities, and rating agencies in relation to the fund investment strategy.

• Asset Management Unit is in charge of performing asset and portfolio management for the investment funds. In this regard, the unit is tasked with identifying bankable projects through project readiness assessments and due diligence and conducting research on the overall investment environment and the financial instruments. It also conducts profitability and feasibility studies on the possible investment funds suggested by the Fund Development Unit. • Risk Management Unit is in charge of managing the company and investment fund’s risks and monitoring and ensuring compliance with all relevant laws, rules, and regulations. The unit works toward identifying, minimizing, monitoring, and controlling the investment risks through ensuring the implementation and adherence to the company’s risk management guidelines. The unit is in charge of identifying project risks and opportunities and developing action plans to mitigate and remedy them. It prepares regular risk management and compliance reports for executive management and the BOD.

• Operations Unit is in charge of maintaining the company’s efficiency and making sure that day-to-day operations run smoothly, which include preparing financial statements and reports for the FRC and other financial regulatory bodies, providing executive management with necessary information, ensuring a productive workplace environment, maintaining clear communication and cohesion between units, developing financial policies and decisions, and maintaining the integrity and efficiency of IT systems and human resources management. 286

Strengthening Economic Development Planning and Infrastructure Funding for Mongolia

Mission and Goals of the DBM AMC

Content

DBM AMC’s mission is to invest in high-return economic growth projects that contribute to the Mission economy of Mongolia by providing asset management services of the highest standards to our clients.

• To place the client interests before our own. • Act in a professional and ethical manner at all times. Principle • Act with independence and objectivity. • Act with skill, competence, and diligence. • Uphold the applicable rules governing capital markets.

• Support and finance projects which enhance the competitiveness of Mongolia and its economic and sustainable growth; • Engage closely with international investment banks and asset management companies to raise funds and gain experience from such activities, so that the company could raise funds without any assistance or participation from the advisory bodies in the mid to long-term; • Work closely with internationally recognized asset management companies to manage the Strategy/ Goals funds and build a track record or performance history, in such way to create a nationally and internationally recognized investment company of Mongolia; • Establish good corporate governance by adopting internationally recognized governance principles; • Promote capacity building and adopt best practices in the area of human resources to ensure a capable workforce; • Create a comprehensive risk management framework within the company.

Source: DBM AMC Business and Risk Management Plan of 2017-2020 (2017).

In other words, the DBM AMC’s strategic goals are to establish funds to introduce competition in infrastructure investment and support large-scale development projects that can lead to Mongolia's economic growth, to collaborate with international banks and asset management companies to complement the initial lack of experience, and set up the proper governance, human resources with expertise, and relevant risk management and reporting systems.

The DBM AMC differs from a general commercial infrastructure fund in such way that it considers the national economic and sustainable growth as a priority and promotes growth through international cooperation.

4.2. Analysis of the Role and Readiness of the DBM AMC throughout the Project Financing Process

The project financing process can be divided into three stages: pre-financing, financing, and post financing. The pre-financing stage consists of project identification, risk analysis and minimization, and technical and financial feasibility study.

In the case of project identification, the DBM AMC has collected information on projects which were generated by the NDA and the DBM. According to the Asset Management Unit of 287

the DBM AMC, as of the end of 2018, 136 projects (101 trillion MNT as amount) information Chapter have been entered into the project database, 76 projects provided by Draft of Investment

Program 2018-2021 of Mongolia, 64 projects provided by Project Booklet of the DBM and 05 Support for Project Financing Mechanisms and Investment Fund Operations 12 projects provided by other sources. Therefore, unlike the general private infrastructure fund, the DBM AMC can easily access information for potential projects.

Though the DBM AMC seems to have few problems due to lack of information in project identification, it is a problem that too many project proposals come compared to the DBM AMC's review workforce. Since it is inefficient to spend a lot of time for reviewing projects with low feasibility, projects that do not meet certain criteria should be rejected before proceeding to the next review stage.

The Asset Management Unit of the DBM AMC has guidelines for accepting projects. Based on the company’s investment policy approved by the BOD, they will invest in projects which are/have:

• Financially and economically viable; • Medium to long-term; • Prioritized by their direct and indirect contributions to the economy, employment creation, productivity, import substitution, and export performance; • In line with the “Mongolia Sustainable Development Vision 2030”; • Co-financed by domestic and foreign professional investors, banks, and financial institutions; • Socially responsible; • Good corporate governance; • A clear exit strategy.

They will not invest in projects which conflict with Mongolia’s National Security Guidelines, negatively impact the environment, or finance the production of alcohol, tobacco, weapons, and hazardous materials, or operate and participate in gambling, military, or war operation.

The DBM AMC should create specific, quantitative, and qualitative criteria to better reflect these investment policies. And these criteria should be able to screen investments quickly and efficiently.

In terms of risk analysis and minimization, it is difficult to analyze the situation because the DBM AMC has not yet participated in the project concession agreement or started 288

Strengthening Economic Development Planning and Infrastructure Funding for Mongolia financing structuring actively. Regarding PPP projects in general, banks and financial investors participate in the negotiation process of the concession agreement between the government and the preferred bidder (potential concessionaire) of the PPP project. Banks and financial investors also ask for including a risk-sharing plan for the project in concession agreement.

In addition, for technical and financial feasibility studies, banks and financial investors outsource feasibility study experts for analysis. Therefore, the DBM AMC should hire external competent feasibility experts to review the feasibility study of the project to determine the bankability of an investment. The Asset Management Unit of the DBM AMC also has the following provisions for information to be reviewed for project evaluations:

Materials regarding the project:

• Project document containing the project’s technical, financial and economic feasibility study, assessment and detailed calculations; • Professional analysts’ assessment report on the project’s technical, technological rationale, and calculations /the company will approve the list of accepted professional analysts; • Environmental impact assessment; • Summary and list of products and works to be produced by the project; • Summary report of the direct, social, economic, and green development impact of the project, developed by the project sponsor and professional analysts; • Contracts relevant to implementing the project; • Project business plan; • Project financial assessment; • Project risk assessment, risk management plans/guidelines; • Other relevant materials and documents.

Feasibility study:

• Reserve of available minerals resources and raw materials; • Market prospects; • Technical and technological prospects/feasibility for implementation; • Economic viability; • Legal feasibility; • Operational feasibility, schedule feasibility.

289

The business plan: Chapter

• Project results, outputs, and objectives; 05 Support for Project Financing Mechanisms and Investment Fund Operations • Project development structure, organization, management team, expertise, and track record of participants; • Financial capacity and projections; • Market research; • Project cash flow, project repayment duration; • Risk mitigation plans.

Financial assessments:

• Financial report analysis, tax estimation, loan repayments; • Estimate of working capital and depreciation; • Cash flow analysis, solvency analysis; • Financial stability analysis; analysis of turnover; • Analysis of performance and profitability.

These guidelines are appropriate for screening for common project financing projects. But the question is whether the DBM AMC can trust the reliability of this information. There may be a lack of reliable information for screening, particularly in situations where there is a shortage of reliable feasibility study experts and insufficient government review.

The financing stage includes the equity arrangement, the negotiation and syndication stage, commitments and documentation, and disbursement. In these process, the DBM AMC will review the appropriateness of the financial structure of the project and consider whether the projected financing structure can secure the stability of the project and maximize the return on investment. The DBM AMC should also create and distribute information memorandums for investors and provide the information that investors demand. It is also necessary to identify whether the investment risk is acceptable through the investment risk review of the Risk Management Unit and investment risk review committee. The DBM AMC's Risk Management Unit has rules on risk management and has experts on risk management. However, the specific experience of project risk review for project financing is still lacking because the investment risk review committee of the DBM AMC has not started performing specific activities.

Overall, the DBM AMC has an organizational structure, rules, and expertise to carry

290 out the project financing process. The company also has information on potential projects

Strengthening Economic Development Planning and Infrastructure Funding for Mongolia from the government and the DBM. However, the DBM AMC lacks specific project execution experience and needs to accumulate execution experience.

4.3. Case Study of the Korean Infrastructure Fund-KDB KIAMCO

KDB KIAMCO was established in 2003 as a subsidiary of the State-owned KDB Bank. KIAMCO is currently the largest alternative asset manager in Korea with a total accumulated fund size of approximately USD 15 billion4. KDB KIAMCO has expanded its business portfolio from traditional infrastructure to power plants, renewable energy, shipping, logistics, and regional development

Major shareholders of KDB KIAMCO are KDB Bank (84%), Woori Bank (10%), and Kyobo Life Insurance Company (6%). Its fund investors are composed of insurance companies (45%), banks (38%), pension funds (9%), government entities (5%), and others (3%).

4 KDB KIAMCO manages 87 funds (15 bill USD) and 236 infrastructure projects in 2018. [Figure 5-19] Major Shareholders and Fund Investors of KDB KIAMCO (Unit: %)

Investor Classification

3 ㆍ51% owned by korea Deposit 9 10 Insurance Corporation ㆍTotal asset of US$ 255 bn 5 ㆍThe leading bank in Korea 38 ㆍ100% owned by the 6 with 117 years of history government of korea ㆍTotal asset of US$ 203 bn ㆍA state-owned bank aspiring 45 to emerge as ‘The Pioneer Financial Group of Asia’ based 84 on its accumulated financial know-how and customer base ㆍ Total asset of US$ 76 bn Banks Insurance Companies ㆍKorea’s blue-chip insurance Government Entities Pension Funds house with 58 years of history Etc.

Source: Information provided by KIAMCO (2019).

KDB KIAMCO is the largest alternative asset manager in Korea, specializing in infrastructure and was the 9th largest infrastructure investment firm in the world in 2016.

General Information about KDB KIAMCO (FY 2017) (Unit: USD million) 291 Chapter Classification Amount

Asset 35.28 05

Liability 6.12 Support for Project Financing Mechanisms and Investment Fund Operations

Equity 29.16 (paid in capital) (9.1)

Net Income 12.20

Invested Fund 14,922 (80 funds) (committed amount)

Financial investment services and Regulating Law Capital markets Act

# of Employee 52

BOD Members 4

Source: KDB KIAMCO homepage, KDB KIAMCO company profile report (2018).

KDB KIAMCO’s investment principle is composed of the following objectives:

• Specialized sectors; • Increase value; • Prevent conflicts of interest; • Buy and hold. It has been successful in power plant and energy infrastructure. In addition, KDB KIAMCO does not engage in any conflicts of interest related to investors' interests. In terms of investment management, the reliability and independence of investment management companies are the most important core values. The company's main investment strategy is to select a project with the optimal selection and structuring methods, then take the selected projects for a long period of time to capture investment returns. Therefore, the projects managed by KDB KIAMCO have a relatively long maturity and the average investment horizon is 23 years.

KDB KIAMCO consists of two divisions. The first deals with infrastructure projects (road, rail, ports, etc.) and BTL facility projects. The second deals with overseas projects, power plants, renewable energy, shipping, aircraft project financing, etc.

Major Investment Areas of KDB KIAMCO

Classification Major Projects

Roads/Railways Beltways, Expressways

292 Power/Energy/Resources LNG power plants, Solar park s Strengthening Economic Development Planning and Infrastructure Funding for Mongolia Logistics/Regional Development Marine Finance Ports, Shipping funds/Logistics complexes

Source: Information obtained from KDB KIAMCO (2018).

The portfolios invested in by KDB KIAMCO include 23 funds for road and railway projects, 31 funds for power and energy projects, and 33 funds for facilities and other projects. Roads and railways projects are the largest share of the total amount.

The main funds managed by KIAMCO are shown in

.

Major Investments of KDB KIAMCO in Different Sectors

Classification Road/Railway Power/Energy Facilities Other

Committed US 5.8B US 3.4B US 2.4B US 0.5B Investment

Fund Size US 6.5B US 5.8B US 2.8B US 0.8B

No. of Funds 23 31 23 10

Source: Information obtained from KDB KIAMCO (2018).

In the early-2000s, KDB KIAMCO established infrastructure funds by investing toll roads and ports. In the mid-2000s, the MRG system for BTO type PPP projects was abolished and BTL modality (the Availability Payment Method) was introduced in PPP projects by the Korean government. Around that time, KDB KIAMCO introduced BTL funds. After 2010, KDB KIAMCO moved to power plant-specialized funds and it recently established a global infrastructure fund, intellectual property fund, and renewable energy fund.

[Figure 5-20] Major Milestones of KDB KIAMCO (Unit: USD billion)

Committed Investment Cumulative Fund Size US$ 15.4 bn US$ 12.2 bn

US$ 10.3 bn

US$ 8.5 bn

12.0 11.3 9.3 US$ 3.0 bn 6.8 US$ 1.5 bn 3.7 4.0 4.2 4.8 2.1 3.0 0.2 0.8 1.8 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018.5 293

Establishment of KIAMCO GIF Chapter US$ 136M KGIF Golbal Infrastructure KIF1 KBTL1 US$ 55M Specialized Blind fund US$ 118M US$ 665M KPEF1 Korea’s first 05 Infrastructure fund US$ 227M Green fund

BTL Specialized Support for Project Financing Mechanisms and Investment Fund Operations fund Power Plant KIPF Specialized US$ 91M KIF2 Blind fund Intellectual Property US$ 1.4B Blind fund Infrastructure fund KPEF2 US$ 446M Power Plant KPEF3 Specialized US$ 2.2B KJSF Blind fund Power Plant US$ 240M Specialized Japanese Blind fund Solar Specialized Blind fund

Source: KDB KIAMCO company profile report (2018).

Main Funds Established by KDB KIAMCO (2003-2018)

Fund Establish Size Type

KIF1 2003 US$ 118M Infrastructure fund

KIF2 2005 US$ 1.4B Infrastructure fund

KBTL1 2007 US$ 655M BTL Specialized fund

KPEF1 2011 US$ 227M Power Plant Specialized Blind fund

KPEF2 2011 US$ 464M Power Plant Specialized Blind fund

KGIF 2013 US$ 55M Korea’s First Green fund

Continued

Fund Establish Size Type

KPEF3 2014 US$ 2.2B Power Plant Specialized Blind fund

GIF 2015 US$ 136M Global Infrastructure Specialized Blind fund

KIPF 2015 US$ 91M Intellectual Property Blind fund

KJSE 2016 US$ 240M Japanese Solar Specialized Blind fund

Source: Information obtained from KIAMCO (2018).

[Figure 5-21] Investment by Funding Source Type/Project Status of KDB KIAMCO (Unit: %)

[Investment by Type] [Investment by Project Status]

28 Senior Operating 33 45 Mezzanine 55 Under Construction Equity 294 39 Strengthening Economic Development Planning and Infrastructure Funding for Mongolia

Source: Information obtained from KIAMCO (2019).

The Key Success Factor of KDB KIAMCO can be summarized by "a reliable corporation system", "making appropriate funds to cope with changing circumstances", and "specializing in specific areas". KDB KIAMCO has grown with the cooperation and support from the KDB Project finance team and has established a reliable cooperative relationship with a reliable feasibility study agency, fund administration outsourced companies, and fund sales companies. It has also built close relationships with KEPCO, power companies, energy companies, and EPC (Engineering, procurement, and construction) companies.

As mentioned above, KDB KIAMCO has changed its fund types according to SOC infrastructure related laws and changes in market conditions. During the period from 2003 to 2005 when the MRG for BTO projects existed in the PPP Law, KDB KIAMCO invested in PPP projects strengthened through the MRG system. The company has made many BTL funds since 2007 and from 2011, the company begun to create new types of funds, including overseas projects, green funds, and intellectual property funds. 4.4. Comparison between the DBM AMC and the Korean Investment Fund Management Case

In this chapter, we will compare infrastructure fund AMCs with the DBM AMC. The DBM AMC differs from Korea's infrastructure fund AMCs in terms of environmental aspects (the macroeconomic and regulatory environments of the country and the project financing market environments), internal organizational structure, and fund management capability.

4.4.1. Environmental Aspects

Mongolia’s current macroeconomic situation is not favorable, and the IMF EFF program is underway, making it impossible for the government to provide financial support to infrastructure investment projects. Increasing profitability and reducing risk through financial support from the government is an important determinant of the investment attractiveness of infrastructure investment projects. Therefore, the current economic situation in Mongolia is at a disadvantage in this dimension.

295

Korea also received financial support from the IMF during the Asian financial crisis in Chapter 1997, and it was difficult for the government to provide financial support for infrastructure investment. Thus, the PPP Law was enacted in order to promote private investment in 05 Support for Project Financing Mechanisms and Investment Fund Operations order to respond to infrastructure investment demand. Since then, the Korean economy has recovered rapidly.

However, because the government has concluded many concession agreements favorable to the investors, it has gradually begun to reduce the elements of concession agreements that were favorable to investors in infrastructure PPP projects since 2005. As a result, profitability and cash flows of the project themselves became more and more important for project financing rather than the government support. When KDB KIAMCO was established in 2003, profitable infrastructure projects through the government’s support had been gradually declining. Thus, infrastructure fund managers were required to accurately analyze business performance and construct investment portfolios through reliable feasibility studies.

Similar to the current economic situation in Mongolia, KDB KIAMCO was also at a stage when the Korean government gradually reduced support for infrastructure PPP projects and it was difficult to find a project that improved profitability through financial support. Overall, the economic and regulatory environment was not favorable. In spite of the unfavorable situation, the experience of PPP procurement has already been accumulated in Korea through financial support and market incentives, and the regulations and the conventions have also been improved. Compared to the Korean case, on the other hand, there is a lack of experience in concession law and government financial and tax support through law has not been specified in Mongolia.

Key features of Korea's infrastructure funds are shown in the following table.

Common Characteristics of Infrastructure Funds in Korea

Classification Common Type Reason

Investment Trust Trust type is preferred because the establishment/ Legal Entity (92%) operation process is simple. (investment vehicle) Investment Company (Financial institutions have restrictions against buying (8%) stocks of investment companies.)

Private closed type is preferred because Mostly private closed Type the application of the provisions for the protection of Investor Listed Open Type is Just One investors is partially excluded. Case (MKIF) Quick establishment operation procedure is simple

Special Asset Collective Invest more than 50% on assets other than securities and 296 Investment Asset Investment Vehicle real estate (Fund law) Strengthening Economic Development Planning and Infrastructure Funding for Mongolia

Redemption Claim Prohibition Against Redemption Prohibit redemption claim: For stable operation for During Fund Claim infrastructure facilities Operation Period

Decision of BTO type: project fund types are common Blind Fund/Project Fund Investment BTL type or environment facility investment is a blind fund

Source: Constructed by the Author.

In Korea, an “SOC Investment vehicle” is specifically defined in the PPI Act for SOC infrastructure investment. Through this legal entity, investors can take advantage of the leverage effect in SOC fund investments and make large-scale investments with a structure suitable for SOC investments. As of February 2019, 10 funds of this type are in operation.

Main Features of SOC Investment Vehicles in Korea

Classification Content

Must consult with MOEF and approved by the FSC Minimum capital condition Establishment Requirements Minimum NAV KRW 5 Billion, Minimum paid in capital KRW 1 Billion

Invested Asset Restrictions SOC facility constructed by PPI

Can borrow up to 30% of paid in capital (Public fund) Allow to Leverage (no limitation in case of a private fund) Allow to direct loan for SPC (enable to use subordinated loan structure)

Pre-Expiration Does not exist Redemption Claims

Regulation on Voting Rights Does not exist

Regulation on Does not exist NAV Disclosures

Regulation on Success Fees for Fund Does not exist Managers

Tax Preference for Individual Investors Low tax rate (5.5%) / maximum marginal tax rate 38%) until 2014 297 Source: Constructed by the Author. Chapter

4.4.2. Internal Organizational Structure 05 Support for Project Financing Mechanisms and Investment Fund Operations

From an organizational point of view, KDB KIAMCO has two distinctive differences from the DBM AMC. First, the CEO controls four implementation departments (Fund Development Unit, Asset Management Unit, Risk Management Unit, and Operations Unit), while in the case of KDB KIAMCO, the CEO directly controls the management and investment groups but the risk management division is under the control of the risk management committee. The reason KDB KIAMCO places the risk management division under the risk management committee, which controls and reports it to both the BOD and the audit committee, is to enhance the independence of the risk management division. [Figure 5-22] Organization Chart of KDB KIAMCO

General Shareholders’ Meeting

Risk Audit Board of Management Committee directors Committee

Audit CEO Team

Management Investment Group Group

Management Investment Investment Risk Management Division Division 1 Division 2 Division

298 Business BTL Aseat RISK

Strengthening Economic Development Planning and Infrastructure Funding for Mongolia Operation Investment Investment Investment Investment Investment Investment Investment Investment Compliance Administration Management Management Team Team 1 Team 2 Team 3 Team 4 Team 5 Team 6 Team 7 Team 8 Team Team Team Team

Source: KDB KIAMCO webpage (2019), http://www.kinfra.co.kr/eng/company_info/organization.asp.

Second, the DBM AMC operates the Fund Development Unit and Asset Management Unit separately, but KDB KIAMCO integrates these functions and operates as an investment division.

Units of the DBM AMC: Work Scope and Employees

Units Work Scope Employees

This unit will be in charge of front office duties. • Developing fund investment strategy • New fund establishment structure • Project development, fundraising Fund Development • Market sounding and identification of potential investors Head of Unit Unit • Preparing information memorandums, investor presentations and + 4 Specialists marketing materials • Developing standards and requirements for partner institutions and service providers such as custodian banks, legal counsels, audit authorities, and rating agencies

This unit will be in charge of managing the company’s assets and portfolio and researching the investment environment. • Reviewing project proposals and conducting project due diligence; Head of Unit Asset Management • Make investment recommendations to the investment committee; + 3 Asset Mgrs Unit • Portfolio management and fund disbursement; • Identifying bankable projects in line with sectorial, regional, and national policy objectives; • Develops short and long-term projections.

This unit is in charge of managing the company’s risk, monitoring, and ensuring compliance with all relevant laws, rules, and regulations. • Identifying, minimizing, monitoring, and controlling the company’s 299 risk through ensuring the implementation and adherence to the Head of Unit Risk Management Chapter company’s risk management guidelines. + 3 Specialists Unit • Identifying project risks and opportunities and developing action

plans to mitigate risk and take advantage of opportunities. 05

• Prepare regular risk management and compliance reports for Support for Project Financing Mechanisms and Investment Fund Operations executive management and the BOD.

This unit is in charge of maintaining the efficiency of the company’s operations and making sure that day-to-day operations run smoothly. Head of Unit • Preparing financial statements and reports for the FRC and other +HR specialist financial regulatory bodies +IT specialist Operations Unit • Providing management with information; +Accountant • Maintaining clear communication and cohesion between units; +Specialist • Developing financial policies and decisions; +Driver • Maintaining the integrity and efficiency of IT system and human resource management.

Source: ‌DBM AMC Business and Risk Management Plan of 2017-2020 (2017) and each unit’s presentation documents for the KDI KSP conference.

4.4.3. Fund Management Capability

The DBM AMC has 25 employees and KDB KIAMCO has 52 employees. The number of KDB KIAMCO’s employees are two times larger than the DBM AMC’s. In 2017, KDB KIAMCO manages 80 funds (15 Billion USD in value). In other words, KDB KIAMCO employees manage about 288 million USD per person.

Korea's Infrastructure Fund AMC has its own investment review experts, but there are many reliable external expert pools ranging from credit rating companies to accounting firms. Moreover, there are many technical experts who have accumulated experience in engineering and construction companies, EPCs, and O&M companies. This way, Korean Infrastructure Fund AMC staff can trust the analysis results of external experts and manage many projects simultaneously.

Regarding the fund administration function in Korea, fund management processing infrastructure is provided through “Fundnet”, which was established by KSD (Korea Securities Depository)5. Fundnet is a computer network for funds that KSD operates in the asset management market. KSD provides efficient fund-related services to clients through standardized data and messages being collected in a connected system among asset management companies, brokers, fund administrators, and distributors. Currently, 62 brokers/dealers, 204 asset management companies, and 9 fund administrators are participating in Fundnet, which may be similar to the number of participants in the Korean fund market. The infrastructure of the Korean fund market and the presence of a large number of outsourcing companies can greatly increase the fund management capabilities of 300 Korean Infrastructure Fund AMCs. Strengthening Economic Development Planning and Infrastructure Funding for Mongolia

Although there are licensed fund administration companies in Mongolia, such as custodians, it is doubtful whether these companies are capable of operating international infrastructure funds. Therefore, if the DBM AMC decides to outsource some of the fund management activities such as accounting and NAV calculation, it must select the most trustworthy partners among these companies.

5 Fundnet was opened in April, 2004 under Indirect Investment Asset Management Business Act, and currently it has been operated under article 80 and 296 of Capital Markets Act. Fundnet provides the management services related to collective investment securi- ties and collective investment asset from creation of funds to development & termination such as subscription & redemption of col- lective investment securities, management instruction of collective investment asset, fund deposit & settlement, and management of beneficiaries' roster. (KSD webpage: KSD Webpage (http://www.ksd.or.kr). 5. Structuring Plan of the DBM AMC’s Function of Fund and Fund Back Office for Project Management

The DBM AMC's Operation unit consists of six employees and has an HR specialist, accountant, and IT specialist. Their main functions are as follows.

• Accounting & reporting: Develop, implement, and monitor the company’s financial policy. - ‌Prepare the company’s financial statements in compliance with the guidance approved by the Ministry of Finance and report them to the relevant authority in a timely manner; - ‌Organize the auditing of the semi-annual and annual financial reports by an auditing company registered with the FRC and report the results at the annual shareholder’s meeting;

- Organize procurements for the company within the approved budget. 301 Chapter

• Human resources: Plan and implement human resource policy.

- Prepare draft resolutions or documents related to human resource operations; 05 Support for Project Financing Mechanisms and Investment Fund Operations - Recruit‌ experienced and capable employees, ensure effective employee retention strategies, and train or retrain them.

• Information technology: Ensure the smooth-running of the computers and their devices, software programs, and information safety. - ‌‌Ensure information safety and prevent potential risks to the information systems of the company; - Provide IT services.

• Day-to-day operations: Ensure the smooth-running of day-to-day operations of the company. - Organize the BOD meetings and prepare all relevant documents; - Draft internal regulations and policies of the company; - ‌Develop an annual and quarterly action plan based on each unit’s suggestions and have it approved by the BOD; - Consolidate the implementation of the action plan. Although the Operations Unit has not yet started fund management work, when fund management is activated, the fund's back office should provide all the support, administration, and recordkeeping to ensure the efficient operations of a fund manager. The key areas of a fund’s back office functions are as follows (Broby, 2010):

• Accounting; • Business activity monitoring; • Client reporting; • Fee billing; • Fund transfers; • Reconciliation systems; • Pricing feeds; • Product processing; • Reconciliation/matching systems; • Safe custody interface; • Settlement and documentation; and 302 • Transaction processing. Strengthening Economic Development Planning and Infrastructure Funding for Mongolia

The fund back office performs transaction processing, settlements, custody, and documentation by checking that records match instructions and ensuring processed orders are all correct. Accounting and administration are also a major function of the back office. Particularly, investment accounting is an important support function to a fund manager’s business. Standard operations such as tax reclaims, management information, and payments are all required. Fund administration such as client dealing, associated administration, contract notes, distribution, and reporting are required and performed by the back office.

The efficient support of IT systems by the back office for the front office and middle office in fund management is needed. The front office and middle office should receive information on transaction management, portfolio management, performance management, investment risk management, and compliance support systems. The transaction management support system should be provided with information related to transaction records, settlements, and pre-compliance checks.

In the portfolio analysis system, it is necessary to provide information such as the schedule management for each project in the portfolio, the weight of each asset type, and the hold rate of return, duration, and information related to capital calls. In the performance measurement system, it is necessary to provide a sensitivity analysis based on market standards (for example, GIPS: Global Investment Performance Standards) for measuring return on investments, measuring and decomposing performance, risk-adjusted rate of return information, and stress scenarios of investment assets. Information such as target rate of return, benchmark performance analysis, and performance factor decomposition should be provided in the performance evaluation system.

The compliance support system needs to provide regulatory information on compliance, information on compliance with planned investment alternatives for pre-compliance checks, and history management information on compliance violations and actions.

Alptuna et al. (2013) provided a checklist to confirm the appropriateness of the infrastructure in an investment fund’s operating systems. They suggest the three key issues in a Model Due Diligence Questionnaire for Hedge Fund Investors, proposed by the Managed Funds Association. In developing the DBM AMC's fund back office, the DBM AMC should review its readiness to respond to the fund asset management checklist.

Checklist for Fund Asset Management from the View of Fund Investors

Issues Check Item 303

• Organization’s current trading, portfolio management, post-trade reconciliation, and Chapter accounting infrastructure; • Third-party software used;

• The execution process of trades; 05

Infrastructure and • Types of controls that are typically used to prevent unwanted executions; Support for Project Financing Mechanisms and Investment Fund Operations Controls for Supporting • The segregation of responsibilities is employed in the post-trade reconciliation process; the Integrity of the Net • The method of transferring cash or other assets, both internally and externally; Asset Value • Types of controls that are used to prevent unwanted transfers; (NAV) Cycle • The method of trading errors handled; • The fund administrator; • The main prime brokers used by the fund; • Written business continuity, disaster recovery, and crisis management plans; • Plans to maximize the ability to recover from business interruptions.

• Valuation process of the fund’s positions; • The frequency of valuation; Valuation • Third-party services employed in the valuation process; • Financial information transparency.

• The organization’s risk management philosophy; Risk Management • The approach is used in the management of the fund’s exposure to equity, interest-rate, currency and credit risk; financing and counterparty risk; and operational risk.

Source: ‌Alptuna, Ü., Hatzakis, M., & Tütüncü, R. (2013). A Best Practices Framework for Operational Infrastructure and Controls in Asset Management. In Global Asset Management (pp. 354-376). Palgrave Macmillan, London.

Alptuna et al. (2013) also suggest the properties of best practices of infrastructure fund management practices.6

6 Alptuna, Ü., Hatzakis, M., & Tütüncü, R. (2013). A Best Practices Framework for Operational Infrastructure and Controls in Asset Man- agement. In Global Asset Management (pp. 354-376). Palgrave Macmillan, London. • Counterparty selection and management: The infrastructure fund must work with many counterparties in the processing of transactions. The counterparties (executing and prime brokers, banks, custodians, etc.) can provide services such as efficient transaction processing, reporting, clearing, and settlement; adequate financing capabilities; appropriate staffing to support the manager’s business. Key factors in selecting counterparties include creditworthiness, reputation, experience, identity, and the legal and regulatory regime of the counterparty, its parent company, and affiliates.

• Cash, margin, and collateral management: The manager should have an effective framework for managing cash balances and processing. Compliance with credit agreements and amounts and types of collateral needed to support positions should be understood and monitored. Investing excess cash should include the analysis of credit risk of relevant counterparties.

• Key service provider (providers of accounting, consulting services; IT vendors;

304 legal counsel; fund administrators; sub-advisors; and external portfolio managers)

Strengthening Economic Development Planning and Infrastructure Funding for Mongolia selection and oversight: Key service providers should be selected based on reputation, expertise, and experience. Agreements with service providers should clearly delineate the service levels and the manager’s internal infrastructure and complexity of operations. The manager should monitor the quality of services offered by providers.

• Development and documentation: The manager must develop and document infrastructure and operational practices. Reporting policies must be established for resolving material breaks, errors, or other potential causes of loss to the fund.

• Accounting procedures: The manager needs to have appropriate systems to allow for the calculation of both fund-level and investor-level NAV as well as for the production of other important financial data necessary to meet investor, risk, financial statement, and tax reporting requirements.

• Systems should be in place that: - Maintain trading related data;

- ‌Summarize trading and non-trading-related data, such as management fees and expenses in a general ledger format and allocate fund-level results to the individual investor level;

- ‌Properly record non-trading related activities such as management and incentive fees, or other fees and expenses;

- ‌Build a month-end-close process to verify the recording of any material valuation adjustments and non-trading-related activities;

- Allocate fund-level NAV to individual investors;

- Prepare and distribute account statements to investors;

- Set‌ up annual processes to produce financial statements and related footnotes to be audited by the fund’s independent accounting firm;

- ‌Manage investor-level tax information, as needed by investors, according to the regulations promulgated by the relevant tax authority.

• The operational procedures for clearing and settling transactions procedures may address: - ‌Position and cash account reconciliation across prime brokers, the fund administrator and front office, including the prompt resolution of failed trades;

- ‌Authorized signatories, checks and balances, and other issues involved in cash movements; 305 Chapter - ‌Segregation of duties between investment and operational personnel, including sending confirmations to non-trading personnel; 05

- ‌The use of industry utilities and software tools to automate corporate actions, Support for Project Financing Mechanisms and Investment Fund Operations such as mandatory and voluntary elections, dividends, splits, and reorganizations; and management of positions with expiration dates, such as options, warrants, rights and conversions. 6. Policy Recommendations

6.1. Appropriate Functions and Tasks of the DBM AMC throughout the Project Workflow

In general, investment processes of infrastructure funds are as follows.

Investment Processes of Infrastructure Funds (Six Steps)

Step Process Work

• Investigate whether the discovered deals meet investment guidelines. Step 1 Deal Sourcing • Deal sourcing that reflects investor needs through consultation with investment partners.

• Macroeconomic Analysis: Analysis of macroeconomic indicators. • Industry Analysis: Analysis of relevant laws, profit structure, competition environment of industrial group of target assets. • Profitability and cash flow analysis: Revenue structure of target project, review of expenditure history by item, comparison of operation cases, Capex scale Step 2 Feasibility Study estimation. 306 • Financing structuring: Repayment structure (priority, subordinated debt structure) equity investment, joint investment. Strengthening Economic Development Planning and Infrastructure Funding for Mongolia • Potential value estimation: Future potential value of project assets, auxiliary facilities’ business profitability.

• Preliminary investment review is conducted by the fund investment review committee before the Memorandum of Understanding is concluded to finance Preliminary Step 3 large-scale projects and increase competitiveness. Investment Review • In the preliminary investment review, plans including investment strategy and due diligence cost are discussed.

• Inspection of project assets; • Review of legal and regulatory issues: regulations related to the project, all the matters related to the contract and lawsuits; • Technical review: Review technical issues with appropriate technical advisors depending on the nature of the assets; • Financial due diligence: Review of financial information; Step 4 Due Diligence • Investigation on tax issue: Taxation issues of the project resolution plan of tax risk; • Review the adequacy of Capex and operating costs; • Insurance: Review the appropriateness of insurance plans and insurance costs for risks; • Review financing plan; • Report of due diligence results.

Funding • Investment contract confirmation; Step 5 Approval of • Funding structure confirmation; Investment • Final approval by the risk management committee;

Investment Asset • Fund management by asset management specialist; Step 6 Management • Report on investors regarding the performance of operations and special events.

Source: White & Case, 2017. In terms of Step 1, the DBM AMC’s Fund Development Unit (FDU) shall be in charge of finding an adequate deal for the DBM AMC’s fund management strategy. The professional career and academic background of the FDU members must be considered appropriate. However, it is insufficient to carry out effective deal sourcing only with the competence of the internal manpower, so establishing network partnerships with external organizations and industry experts is essential.

Networking with external experts needs to be done with both developers and fund providers. In Korea, the development of infrastructure projects is initiated mainly by construction companies and engineering companies. Therefore, Korea's infrastructure fund AMCs usually hire professionals from the construction companies or engineering companies or build partnerships with them. The DBM AMC should be able to build partnerships with these project developers to better understanding their trends and gather information on projects that can be added to the project pipeline. The DBM AMC also needs to develop a close network connection with fund providers. However, in Mongolia, there is a lack of financial institutions that can provide a large amount of infrastructure investment, so it is necessary to explore and contact the DFI or foreign investors and to understand their 307 investment guidelines and requirements. Chapter 05 The DBM AMC will review the feasibility study report presented by the leading lender Support for Project Financing Mechanisms and Investment Fund Operations of the sponsor or project financing in Step 2. Unfortunately, the number of reports to be reviewed by the DBM AMC is high, and the purpose of these feasibility study reports are often different from the investment objectives of the DBM AMC. In general, the feasibility study conducted for the concession agreements between the government and the sponsors differ from the feasibility study conducted during the project financing process in terms of the purpose and contents. The DBM AMC needs a feasibility study that estimates cash flow conservatively for project financing and investment purposes. The estimations in the feasibility study may not be conservative enough for the projects proposed to the DBM AMC, so it is necessary to examine whether the cash flow estimations have been made appropriately in terms of bankability.

The DBM AMC should build a separate financial model based on the feasibility study report presented in the project proposal submitted by the sponsors or the competent authorities. It can use the financial model to perform stress tests and simulation tests on the return on investment from the investors’ perspective and to check how the profitability and redemption potential of the investment changes when the financial structure is changed.

Since conducting due diligence and preparing the MOU are cost and time consuming tasks, the DBM AMC should conduct a preliminary investment review immediately before due diligence to review whether the characteristics of the project meet the DBM AMC's fund investment criteria.

In Step 4, the DBM AMC reviews the legal, financial, and technical problems of the project. It is important to make sure that the main content of the feasibility study report identifies risks that may arise during the investment process and develop risk-sharing measures.

In Step 5, the DBM AMC must confirm the investment contract and funding structure and approve the investment and funding plan through the risk management committee. The risk management committee should assess not just the risk appraisal of the project itself, but also how the risk of this project can affect the enterprise risk of the DBM AMC.

At the investment asset management stage, the DBM AMC should improve the operating performance of the project company in terms of operational and financial performance through cost control, increased operational efficiency, and maximized profits. The DBM 308

Strengthening Economic Development Planning and Infrastructure Funding for Mongolia AMC has to monitor whether managers of the project company effectively oversee the performance of service providers entrusted with the operation of infrastructure assets and perform benchmarking analysis and inspection in comparison with other existing projects. Then, it should make decision on whether to set up new contract terms, renew the contracts, or cancel existing contracts.

The DBM AMC also has to check whether the project company conducts periodic safety and structural inspections to assess the structural status and maintenance requirements of the target project. In addition, it should closely monitor trends in interest rates and capital markets to implement investment portfolio management strategies such as refinancing with lower interest rates and increasing leverage. It is also necessary to utilize the financial leverage of the project company during the contract period of the target infrastructure assets to reduce tax expenditures and increase return on equity.

6.2. Enhancing the DBM AMC’s Competence in Organization and Establishing a Reliable Cooperation System

The DBM AMC's organizational analysis shows that its organizational structure is similar to that of Korea's Infrastructure Fund AMC, and the competence of each unit's staff is also evaluated positively. However, due to the fact that the DBM AMC's staff lacks experience in infrastructure fund operations or project financing, exploring as many opportunities as possible to accumulate such experience is a must. Therefore, sending DBM AMC staff members to global project financing agencies, investment banks, or infrastructure funds to have opportunities for training and to communicate with professionals such as construction companies, securities firms, and feasibility study agents would definitely help them gain experience.

Korea's infrastructure funds have grown through cooperation with a group of trusted experts, including fund administrators and feasibility study experts. KDB KIAMCO cooperates with the KDB project finance team, feasibility study expert (Korea Ratings, Big 4 accounting firms, etc.), fund administrators (Shinhan Assets, Woori Fund Service, etc.), and sales agent (securities companies). Although Mongolia still lacks project finance experts, it is necessary to build reliable and long-term relationships with agencies in each field, and support their capacity to grow. For example, Korea's feasibility study companies did not have a lot of experts in the 1990s, but their expertise and experience accumulated through the involvement of domestic professional organizations in the KDB's projects. In Mongolia, the DBM needs to strategically select and grow these specialized agencies.

6.3. Focusing on Target Investors 309 Chapter

In Korea, feasibility studies from national economic and social perspectives and feasibility studies from the viewpoint of investment profitability and bankability are both 05 Support for Project Financing Mechanisms and Investment Fund Operations prepared by independent institutions (PIMAC and a feasibility study agency employed by lenders) in the decision-making process of SOC project investment. SOC projects are subject to a feasibility studies from economic and social perspectives by PIMAC and MOEF. Project financing banks and sponsors will thoroughly review the project from an investor 's point of view.

The DBM and DBM AMC, on the other hand, have difficulty considering the benefits to the national economy and the profitability of an investment from the investment fund. In Mongolia, although the NDA is in charge of reviewing and selecting PPP projects in advance from the viewpoint of the socioeconomic benefits, the DBM AMC is also expected to consider these factors due to its mandate to fulfill the government’s interests and mission. However, in principle, the Infrastructure Fund AMC's role is to maximize the profitability of the fund and to keep the risk at an appropriate level. Thus, the DBM AMC should evaluate the investment profitability and investor risk aspects for projects prior to the socioeconomic feasibility criteria.

Regarding reaching out to the fund investors, the DBM AMC targets foreign investors and global investment institutions rather than Mongolian domestic investors. Even though attracting investments from global investment institutions will be hugely beneficial to the domestic economy, finding projects with the desired level of business feasibility at an early stage required by global investment companies might be challenging. For example, in the first few years after its inception, KDB KIAMCO’s partnership with Canadian investors for its first ever infrastructure fund failed because it was unable to identify projects that met the requirements of the investors. Fortunately, KDB KIAMCO has explored domestic investment opportunities and successfully raised funds from domestic companies.

Despite the fact that Mongolia lacks strong financial institutions that prefer long-term investment such as pension funds or insurance companies, it is important to understand the investment preferences of domestic investors and provide investment funds accordingly.

6.4. Special Law and Regulation for Supporting Infrastructure Fund

In Korea in the late 1990s, the government implemented various laws and regulations to facilitate SOC investment. The government has undertaken several measures to increase 310

Strengthening Economic Development Planning and Infrastructure Funding for Mongolia the returns of investors in project financing such as allowing borrowing to have a leveraging effect of the investment organization, and reducing the tax burden by applying a low tax rate on return on investment. In particular, Korea has enacted legislation specifically for the infrastructure investment vehicle that provided the fund company with a borrowing allowance, strong investor protection, tax benefits for investors, etc.

Like Korea, Mongolia should develop a favorable legal framework that enables and supports the infrastructure fund’s investments either through existing laws such as the Concession Law or Investment Fund Law or other special laws. Moreover, the government should announce the basic plan for supporting private investment annually and inform the project financing market participants. Such government support will be of practical assistance to investors. References

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