Mongolian State Procurement: New Law Bars Most

UNCLAS SECTION 01 OF 04 ULAANBAATAR 000160

SIPDIS

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SIPDIS

STATE PASS DOC/ITA, USTR, USTDA, OPIC, EXIMBANK
STATE FOR EAP/CM AND EB/IFD/OIA
USAID FOR ANE FOR D. WINSTON
MANILA AND LONDON FOR ADB, EBRD USEDS
TREASURY FOR USEDS TO IMF, WORLD BANK

E.O. 12958: N/A
TAGS: EINV PREL ETRD EMIN ENRG MG
SUBJECT: Mongolian State Procurement: New Law Bars Most
International Bidders and Cuts Competition Requirements


Sensitive But Unclassified - Not for Internet Distribution

Ref: Ulaanbaatar 125


1. (SBU) SUMMARY AND COMMENT: In a candid recent conversation, a
senior official of Mongolian Ministry of Finance told us that
Mongolia's government procurement process has been problematic for
years, due to the limited staff of the Ministry's Procurement
Office, and the tendency of State Great Hural Members to load
budgets up with pork barrel projects they push officials to award to
their political and business cronies. However, things are set to
get worse, just as Mongolia launches a major expansion of
infrastructure projects using funds from the Windfall Profits Tax on
copper and gold. In the final hours of its latest session, and
without any public notice or S-Q~s! ects from competitive procedures if they are under the
$10 million threshold. End Summary.

Best Practice Procurement Comes to Mongolia
--------------


2. (SBU) Following the events involved in the disputed solar power
tender (reftel),the Ministry of Finance's Director General of the
Procurement Policy and Coordination Department, Ms. Kh. Mart
(strictly protect),explained to Commoff how Mongolia's government
procurement system had evolved over the last 15 years and the
current problems that threaten that system. For the last decade,
Mart has worked in MinFin's procurement division, assisting with all
aspects of reforming old and implementing new regulations.
Specifically, she served as the GOM liaison with the Asian
Development Bank as it provided extensive technical assistance on
drafting the last major revision to the state procurement law from
1999-2000. (Note: Ms. Mart spoke candidly, noting that she is about
to leave her position for other employment because of
disillusionment.)


3. (SBU) Mart bluntly explained her willingness to discuss problems
with state procurement. Having working so hard over the last 15
years to try to make Mongolia's state procurement system among the
best in Asia and globally, Mart was extremely disappointed by the
State Great Hural's (SGH) recent amendments to Mongolia's excellent
Asian Development Bank (ADB)-sponsored procurement law. Mart saw
these changes as clearly reversing the GOM's commitment to an open
and equitable system and a return to an inefficient, corrupt system.
Commoff noted to Mart that SGH had done the same with the
amendments to the minerals law, imposing a system that allowed too
much government intrusion and discretion into areas best served by
commercial interests. Mart agreed that the trend seemed to be away
from clear procedures and market forces to some sort of socialist,
free-market hybrid that combined the worst aspects of both.

Paradise Found
--------------


4. (SBU) Prior to 1991, Mart noted, Mongolia employed a
Soviet-inspired and imposed system of government procurement,
covered under the Budget Law of Mongolia. There was no need for a
procurement law as the government was simply allocating resources it
already owned and controlled through a socialist system that on
paper yielded the most efficient, lowest cost results. The only
matters to determine were development priorities and if sufficient
resources were available for these needs. Based on the concept of
five-year planning, projects were sent down from on high, money and
material were allocated from the center, and projects were
implemented. While not praising the socialist era's elaborate
bureaucratic oversight apparatus, Mart noted that projects were
completed, if not perfectly so.


5. (SBU) From 1991-2000, the GOM unsystematically abandoned aspects
of the socialist procurement system. The ministries and the State
Great Hural (SGH) would determine projects and budgets according to
the law, but left implementation to respective ministries and agency

ULAANBAATA 00000160 002 OF 004


heads. Constrained only by the amount budgeted, the reigning
bureaucrats controlled all other aspects of planning and execution
with little or no oversight to prevent conflicts of interest, waste,
fraud, and abuse, because oversight had collapsed in the early years
of the transition. Mart stated that both budget and corruption
levels raced up as the players had no check on their appetites.
More importantly, vital development projects were not being
completed at all.


6. (SBU) Recognizing that these institutional weaknesses were
harming the state, elements within the GOM, supported by the donor
community, pushed through key reforms in the late 90's, at first
only for the large projects and then an ABD-led reform for the
entire procurement system. Selecting from the best practices
recommended by the UN, WB, and ADB, Mongolia passed procurement
reform in the waning days of the Democratic Party's control over the
GOM, leaving implementation to the MPRP government that followed.
First, the new law embedded the legal concept of "procurement" into
Mongolian law. Mongolian legal practice requires such legislating
because, if a concept is not formally enacted into law, there is no
legal obligation for anyone to follow any specific practice. Thus,
prior to 2000, MinFin admonishments to officials about waste, fraud,
and abuse in procurement had no legal force whatsoever. However,
the 2000 Procurement Law enacted a legal concept and system against
which the actions of GOM officials could be assessed and held
accountable. Second, the new law divided procurement into three
separate areas of responsibility: planning, oversight, and
execution. These "Chinese walls" among the planning, oversight, and
execution, were meant to preempt conflicts of interests in that had
plagued state procurement in the 90's.


7. (SBU) The GOM proposes budgets and projects to the SGH for
approval, but the SGH can and does add items to the budget. Mart
noted that the SGH often has little or no solid planning on the
initiatives it sends to the GOM. In an effort to mediate
differences between the ministries and the SGH, an inter-ministerial
council was established to meet on projects over US$150,000. It was
abolished in 2005, because ministries and members of the SGH simply
used it as a means to tack on all sorts of extras to any procurement
that came their way, busting budgets and making projects
un-implementable.


8. (SBU) Once a project leaves initial planning, the individual
ministries and agencies -- some 6000 entities -- fine tune their
respective plans for procurement. Separate evaluation committees
within each entity, charged with executing particular projects,
submit the technical specifications for each project for
intra-ministerial review by the relevant departments, including the
ministry's budget officers. These documents will become the tender
package or request for proposals to follow. These evaluation
committees then execute the procurement


9. (SBU) MinFin has the right and responsibility to review documents
and processes to ensure consistency with the Procurement Law at all
stages. As a practical matter, Ms. Mart and her staff of seven
cannot possibility review all procurements conducted by Mongolia's
6000+ public entities. MinFin leaves most investigation to the
State Audit Authority. Of the some 600 new projects over US$150,000
executed in 2006, Mart noted that her team could only review 30
thoroughly, given the complexity of the projects. Thorough review
will only occur on projects that exceed US$3 million. Mart said she
would look to increase that financial threshold because more and
larger projects are coming down the pike, and she expects no
increase in human resources to examine these projects.


10. (SBU) In assessing the procurement apparatus, Mart argues that
she and her team are as professional and effective as possible given
the circumstances faced. She is, however, less generous in assessing
ministerial and SGH responses to the law. Regarding training of the
SGH, Mart observed that its members seemed largely indifferent to
MinFin's training in procurement techniques and issues. Regarding
bureaucrats, in the early years of implementation the initial
problem was that ministerial officers did not understand how to
implement the legal requirements, especially how to draft project
and tender specifications. Mart assisted with trainings she called

ULAANBAATA 00000160 003 OF 004


basically successful, but noted that excessive employee attrition in
the ministries that do most of the tendering (the Ministry of
Health, for instance) lowers the value of such training. However,
Mart believes that training efforts have still delivered a workable
level of expertise but that more training is certainly needed.
(Comment: Mart was obliquely criticizing a civil service system that
provides no tenure or protection for its employees. In the case of
the Ministry of Health, former Minister Gundalai fired most of the
existing employees and experts, replacing them with his own
nominees. Such wholesale firings left no one to train new employees
in procurement methods.)


11. (SBU) Mart complained that poor planning and violations of the
regulations have consistently plagued implementation of the
procurement law. As most projects are proposed by SGH members,
ministers and their respective political and business associates --
often one and the same, and none experts in the fields under
consideration -- projects all too often lack details needed for
budgets and specifications, slowing down execution of the project
before it event gets to MinFin. Also, Mart often must send projects
back for further planning because they routinely fail to comply with
the law, causing further delays. Delays often cause cancellation as
budgeted funds cannot be committed within the fiscal year.


12. (SBU) MinFin's refusal to sign off on poorly conceived and
legally dubious projects has generated the most heat between Mart's
department and other parts of the GOM: Ministers, department heads,
SGH members and their associates angrily threaten her (sometimes
with bodily harm) unless she relents, she said. She mentioned that
the solar power tender that had generated post's initial interest in
procurement (see reftel) had spurred much abuse from Minister of
Fuel and Energy Erdenebat and his people at MFE against her and her
team: demands that the MinFin accept MFE tender concepts and
processes, even though neither followed the law. Mart asserted such
complaints about delays proved the law was doing its job.

Paradise Lost: Parliament Amends the Procurement Law
-------------- --------------


13. (SBU) According to Mart, the SGH responded to GOM complaints of
too many project delays and cancellations by amending the
procurement law in the last hours of its recently ended fall/winter
session. Rather than accept MinFin's explanation that delays and
cancellations argued that the law protected state interests and
finances by slowing down illegal and poorly conceived projects (most
of which Mart attributed to the SGH),SGH members opined that the
law held back essential programs, frustrating the will of the
people, harming the nation. Since the state had already budgeted
some US$350 million for projects in 2007 (mostly road and power
projects funded by the Windfall Profits Tax on copper and gold),MPs
argued that it was essential to ensure these projects were funded
and executed within the 2007 fiscal year.


14. (SBU) The newly amended procurement law has two provisions that
disturb Mart. First, the amended law specifically exempts power and
transport projects from competitive procedures. In these two
sectors, ministries may procure the services for the GOM by direct
contracting for projects under US$10 million and where local
capacity is lacking, which covers 999 out the 1,000 projects
budgeted for fiscal year 2007. Mart explained how this new system
would work. Let's say that Ministry of Roads, Transport and Tourism
(MRTT) will fund five road projects for US$5 million each. If there
are four Mongolian firms that can satisfy the technical
specifications, then these four will each receive a contract. Even
if one firm stands head and shoulders above the rest in its
technical capacities and ability to deliver quality goods and
services at the lowest cost, the SGH aims to spread the bounty among
all "capable" local firms. However, the MRTT minister will have
prerogative of directing the fifth contract to whomever he thinks
capable because local capacity (Mongolia's four firms) is
insufficient to meet state procurement needs. Mart also thought the
amendments might allow a minister to award all contracts according
to his dictate if he determined that no local capacity exists
whatsoever. Mart commented that this new provision sets Mongolia's
procurement system back to the corrupt days of the 90's.

ULAANBAATA 00000160 004 OF 004




15. (SBU) Mart also bluntly criticized provisions barring
international competitors from participating in government
procurements US$10 million and under. According to Mart, the SGH
enacted this amendment because it felt that the current law unfairly
helped foreigners. The SGH based this judgment on the fact that
Mongolians often did not win or compete on many of the large
procurements. Mart argues the failure here was not the old
procurement law but that Mongolian firms lack the capacity to
compete. That the amendments will not change this fundamental
situation was ignored by the SGH. Mart also stated that there was
nothing in the law that prevented a winning Mongolian bidder from
subcontracting out his rights to third party capable of delivering
the service. In fact, the winner bidders would have to do if they
could not deliver the project on their own steam, adding extra
opportunities for corruption and waste.


16. (SBU) Mart was also concerned that the US$10 million ceiling
might violate Mongolia's WTO commitments under the plurilateral and
optional General Procurement Agreement (GPA). Mart noted that only
one out of the thousand projects budgeted for 2007 would break the
US$10 million exclusion set in the amended law. (Note: Mongolia is
not a member but an observer to the agreement. The WTO GPA allows
signatories to limit international competition in government
procurement only on projects less than or equal to Euro 6 million,
about US$7.9 million. Although GPA disciplines aren't required of
Mongolia, the high bar to international competition seems at
variance with Mongolia's stated policy to have free trade with the
U.S. and its other third neighbors.)


17. (SBU) Mart also criticized the legislative process that produced
the amendments. She noted that review of the bill took only thirty
days and involved absolutely no public notification or discussion of
the amendments with any of the stakeholders. There was no mention
in any of the media. She took her concerns to the SGH, her
minister, and to the Ministry of Industry and Trade but got no
traction on her concerns. Neither the World Bank nor the ADB was
informed or learned of the proposals until the last minute and post
only learned of the law after the fact.

Minton