MONGOLIA ON A RISING CHINA: HEDGING PREFERRED BUT

C O N F I D E N T I A L ULAANBAATAR 000020


STATE FOR EAP/CM; PLEASE PASS TO COMMERCE

E.O. 12958: DECL: 01/22/2019
TAGS: PGOV PREL ECON EFIN MOPS MG CH RS
SUBJECT: MONGOLIA ON A RISING CHINA: HEDGING PREFERRED BUT
ENGAGEMENT REQUIRED (C-AL8-02576)

REF: A. 08 STATE 134378

B. 09 ULAANBAATAR 014

Classified By: Political Counselor Andrew Covington, Reasons 1.4 (b) and (d)


1. (C) Summary: Mongolia faces the challenge of being a
large, sparsely populated, landlocked country sandwiched
between China and Russia. Mongolia,s Third Neighbor Policy
of building economic, political, social and military
relations with outside countries ) the United States
foremost among them ) speaks directly to Mongolian concerns
about the influence of its neighbors. These concerns shape
the discussions taking place both in Parliament and in
Ulaanbaatar,s cafes, but the words are chosen carefully so
as not to sour relations with China and Russia. The answers
below, in response to Reftel A, focus on the China side of
this balancing act. In the face of an overwhelmingly large,
speedily developing and undemocratic neighbor to the south,
most Mongolians understand that a certain amount of economic
engagement is unavoidable and in fact desirable, but wish to
limit Chinese influence in their affairs to the extent
possible. End Summary.

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Background: China within the Mongolian World View
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2. (SBU) Geography and history are the two compelling factors
that determine Mongolia,s foreign policy. Mongolia is a
landlocked country in northeast Asia with only two neighbors:
densely populated China to the south and sparsely populated
Russia to the north. Known best for its worldwide dominance
under Genghis Khan in the 13th Century, Mongolia was later
mostly integrated into the Chinese Qing Dynasty for 200 years
until declaring independence and falling under Soviet
influence in the early 20th Century. In 1991, the
pro-democracy movement established the Mongolia of today,
characterized by regular and generally free and fair
elections.


3. (C) These factors have led Mongolia to adopt its Third
Neighbor Policy of reaching out to friendly Western nations,
among whom the U.S. is most critical, although Europe, Japan,
Korea and others also play significant roles. The government
of Mongolia pays keen attention to the intentions of its
neighbors, especially China. Despite 70 years of Soviet
domination, with purges that killed tens of thousands among
the monks and educated elite, the majority of Mongolians
today consider China a greater threat than Russia to its
national identity and sovereignty. This may be a legacy of
the many Russian-educated politicians still at the pinnacles
of power. Nonetheless, Mongolians would prefer to see Russia
and China maintain good relations so that neither is again
tempted to pull Mongolia into its sphere as a buffer against
the other.


4. (C) The concern in the 21st Century stems more from a fear
of being swamped by a flood of Chinese immigrants who would
stamp Mongolia out of existence. The Mongolians have only to
look at China,s province of Inner Mongolia, where four
million once-dominant ethnic Mongols now find themselves
surrounded by twenty million Han Chinese, to see how such a
scenario might play out. Moreover, the Chinese handling of
Tibet and the Dalai Lama goes over poorly in Mongolia, where
Tibetan Buddhism is enjoying a post-Soviet resurgence and the
Dalai Lama is revered. (Note: "Dalai" is a Mongolian word
meaning ocean and came to be part of the Tibetan leader,s
title through a Mongolian khan.)


5. (C) Nonetheless, the government of Mongolia has tried
quietly to maintain as pragmatic an approach toward China as
possible, despite strong public opinion to keep its distance.
Mongolia knows that China is the primary market for its
extensive coal, copper, gold, and other mineral deposits, as
well as its livestock resources. China must and will remain
the top market for Mongolia as it transforms its economy to a
greater value-added orientation, which is the stated intent
of Mongolia,s leaders. Russia,s sparsely populated east is
not a viable market, Mongolia has no sea port, and
transportation costs to other markets in Europe and the U.S.,
and even to Japan and Korea, are high.

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Answers to Reftel A Questions
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6. (C) QUESTION A: ENGAGEMENT VERSUS HEDGING. As can be seen
from the above background, Mongolia,s relevant foreign
policy is the Third Neighbor Policy, a hedge against a rising
China. Without question, the Mongolians are also engaged
with the Chinese, but the preference is to keep them at
arm,s length where possible.


7. (C) An example of this orientation are the negotiations
currently taking place to develop China,s massive Tavan
Tolgoi coking coal deposit located near the Mongolian-Chinese
border. Chinese state-owned firm Shenhua has expressed an
interest in leading development of the project, but the
Mongolians tell us privately they would prefer to offer the
Chinese a secondary role in development, with a Western firm
(possibly the U.S. firm Peabody Energy) taking the lead.
Mongolia understands that China will be the main market for
the coal and so must have a role in the mining process.
However, the GOM wants to keep the primary customer for the
product from controlling the mine operation in the belief
that Chinese state-owned firms will not maximize the value of
the coal in Mongolia.


8. (C) In ten years this situation is unlikely to change
significantly. At best, Mongolia may be able tip the
leverage equation with China to be slightly less unfavorable
if it can put into play the foreign investment needed to
exploit Tavan Tolgoi and other coal and mineral deposits and
thereby boost its GDP by double-digit figures. In the case
of Tavan Tolgoi, Peabody has risen to a leading position
among the firms competing for the project specifically
because it is American. The Mongolian government and public
believe that an American player will bring best practices,
financing, and U.S. government political support that might
be brought to bear on the Chinese should the Chinese balk at
Mongolian coal exports into, or transshipped through, China.


9. (C) QUESTION B: PROMINENCE OF CHINA ON THE AGENDA.
Mongolia affords the management of its relationship with
China high priority, approximately equal to maintaining good
relations with Russia and seeking other outlets through its
Third Neighbor Policy. However, domestic concerns such as
growth and development, health care, education, and electoral
reform usually rank higher in priority.


10. (C) QUESTION C: INTEREST GROUPS AND PUBLIC OPINION. The
military knows it could not hope to repulse a Chinese
invasion, and as such has shifted gears in recent years to
focus more on peacekeeping activities abroad and maintaining
good relations with the U.S. military and others through
annual exercises such as Khan Quest. The Mongolians also
cooperated in an equipment maintenance exercise with the
Russians in November 2008 that brought in the largest number
of Russian troops to be present since the Soviet withdrawal.


11. (SBU) A number of nationalist and ultra-nationalist
groups have formed in recent years as part of a backlash
against foreigners in Mongolia, and the Chinese receive the
sometimes violent brunt of their nationalist anger.


12. (C) NGOs are increasingly sophisticated and influential
in Mongolia, although many are still in the infancy stage in
learning the game of influence. Some local NGOs with social
development portfolios tend to view China as a source of
illicit drugs (though very minor),illegal economic
migration, and as a destination for human trafficking
victims. However, a smaller number are seeking to partner
with the nascent NGOs in China to combat these and other
problems.


13. (C) Suspicious of China, Mongolians strive toward
self-sufficiency in as many areas as possible, and the
government largely adheres to this orientation. In January
2009, after reports surfaced in the media that the GOM was
considering a $3 billion loan package from China to mediate
the impact of the world financial crisis, man-on-the-street
media reports (including blogs) blasted the idea, crying that
the government was selling their children,s future to the
Chinese. The government may now scale back or eliminate the
option. (Note: Mongolia may accept an assistance package
from the IMF to overcome its 2009 revenue crunch due in large
part to falling commodity prices. See Reftel B. Separately,
in 2006 Mongolia negotiated a USD 300 million concessional
loan with China, broken down into USD 60 million in cash and
USD 240 million in industrial credits that must be used with
China. However, Mongolia has used only a small fraction of
this available money and credit.)


14. (C) QUESTION D: CHINA,S INFLUENCE ON MONGOLIAN POLICIES.
China,s greatest influence over Mongolia is in trade
relations -- it absorbs some 70 percent of Mongolian exports,
most of which are raw or unfinished products that either feed
China,s energy needs or receive added value in China,s
factories. This percentage has risen with the development of
Mongolia,s mineral sector. Chinese firms and individual
investors dominate foreign direct investment (FDI) into
Mongolia, especially in the minerals sector and some
construction. Over two-thirds of the last decade,s FDI, or
about USD 2.5 billion, has come from China. By comparison,
U.S. firms have invested about USD 200 million over the same
period. Mongolia has obtained a limited quantity of military
aid from China, in the form of buses, trucks, building
supplies, shotguns and riot control ammunition. The Russians
are much more involved with Mongolia,s military, due to the
preponderance of Soviet-era equipment in the Mongolian
arsenal. The Chinese occasionally offer diplomatic support
to the Mongolians when their interests coincide, but the
Mongolians have generally been more receptive to our
demarches on issues before the UN General Assembly.
Moreover, the Chinese treatment of the Dalai Lama often puts
the Mongolians at odds with the PRC.


15. (C) QUESTION E: BENEFITS FROM CHINA. The Mongolians do
not anticipate significant diplomatic, security or domestic
political benefits from China for reasons outlined above.
Economic benefits will be in the form of a hungry market for
Mongolia,s developing mining sector, as outlined in paras 7
and 8. See para 13 for a description of the resistance
generated by China,s offer of a $3 billion loan package to
help Mongolia with its 2009 revenue shortfall.


16. (C) QUESTION F: GROWTH OF CHINA,S POWER. Mongolia
expects China,s power to grow relative to its own and
relative to other countries of the region. Mongolia also
expects China,s power to grow relative to the United States
for the foreseeable future, but the Mongolians expect the
U.S. to remain the sole superpower for decades to come.


17. (C) QUESTION G: CHINA,S DISPOSITION TOWARD THE REGION
AND THE U.S. Most Mongolians believe that the U.S. and China
will continue on their current path of generally cooperative
relations punctuated by occasional friction. Many Mongolians
in government and the public view China as seeking to
displace a degree of U.S. influence in East Asia, but there
is disagreement as to whether China seeks preeminence or
simply a freer hand. Chinese preeminence in the region is
not something democratic, landlocked Mongolians would wish to
see. They see PRC preeminence as a threat to their
democracy, independence, and trade options.


18. (C) Mongolians view U.S.-Chinese cooperation on the Six
Party Talks (6PT) as the paramount example of how the two can
work together for the benefit of the region. Mongolian
policy makers continue to express their interest in having
Mongolia host further meetings related to or in parallel with
6PT negotiations.


19. (C) QUESTION H: HEDGING AS A SAFEGUARD. Most Mongolians
view hedging as an essential safeguard against Chinese
superiority. This is precisely the intent of the Third
Neighbor Policy as described in para 3. Such hedging is the
reason a $3 billion loan package from China is booed in the
press and why Chinese companies seeking majority involvement
in Mongolian mining projects are fighting an uphill battle.


20. (C) QUESTION I: U.S. STRATEGIC ENGAGEMENT. The GOM
views continued U.S. strategic engagement in Mongolia as both
essential and eminently desirable. Mongolia understands that
U.S. interests in the country itself are limited, but
Mongolia also knows its best option for maintaining its
freedom of economic and political movement is to partner with
influential countries beyond its neighbors. The United
States is foremost among those countries that have been
approached in this fashion as Third Neighbors.


MINTON