2010 MONGOLIA INVESTMENT CLIMATE STATEMENT

UNCLAS SECTION 01 OF 38 ULAANBAATAR 000017



SENSITIVE

SIPDIS



STATE PASS USTR, USTDA, OPIC, AND EXIMBANK

STATE FOR EAP/CM AND EEB/CBA

USAID FOR ANE FOR D. WINSTON

USDOC FOR ZHEN-GONG CROSS



E.O. 12958: N/A

TAGS: EINV, ECON, OPIC, KTTB, USTR, MG

SUBJECT: 2010 Mongolia Investment Climate Statement



REF: 09 STATE 124006



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1. As requested ref, post provides the 2010 Mongolia Investment

Climate Statement.



A.1 OPENNESS OF GOVERNMENT TO FOREIGN INVESTMENT



In its specific policies, laws, and general attitude, the Government

of Mongolia (GOM),has tended to support foreign direct investment

(FDI) in all sectors and businesses. However, some 2009 regulatory

and legislative acts in the areas of environmental law, taxation,

and mineral rights effectively narrow Mongolia's openness to FDI.

While most Mongolian industrial and economic strategies do not

discriminate actively or passively for or against foreign investors,

specific governmental acts regarding foreign involvement in

Mongolia's nascent uranium sector have spurred public criticism that

the government is curtailing the rights of foreign investors in

favor of the Mongolian state. These criticisms also concern that

changes to the uranium law have created a precedent for further

restrictions on FDI.



In general, Mongolian law does not discriminate against foreign

investors. Foreigners may invest with as little as USD100,000 cash

or the equivalent value of capital material (office stock,

structures, autos, etc.). In both law and practice, foreigners may

own 100 percent of any registered business with absolutely no legal,

regulatory, or administrative requirement to take on any Mongolian

entity as a joint venture partner, shareholder, or agent. Mongolia

pre-screens neither investments nor investors, except in terms of

the legality of the proposed activity under Mongolian law. The only

exceptions to this flexible investment regime are in land ownership,

petroleum extraction, and strategic mineral deposits.



Limitations on Participation in Real Estate, Petroleum Extraction,

and Strategic Minerals Deposits



Only individual Mongolian citizens can own real estate. Ownership

rights are currently limited to urban areas in the capital city of

Ulaanbaatar, the provincial capitals, and the county seats, or

soums. No corporate entity of any type, foreign or domestic, may

own real estate. However, foreigners and Mongolian and foreign

firms may own structures outright and can lease property for terms

ranging from three (3) to ninety (90) years.



Mongolian law also requires oil extraction firms to enter into

production sharing contracts with the government as a precondition

for both petroleum exploration and extraction.



Passed in 2006, Mongolia's current Minerals Law enacted the concept

of the strategically important deposit, which empowers the GOM the

right to obtain up to either a 34 percent of 50 percent share of any

mine on or abutting such a deposit. The prior 1997 law had no

concept of "strategic deposits" allowing the state to take equity in

mines.



The current law defines "a mineral deposit of strategic importance"

as "a mineral concentration where it is possible to maintain

production that has a potential impact on national security,

economic and social development of the country at national and

regional levels or deposits which are producing or have potential of

producing above 5 percent of total GDP per year." Ultimately, the

power to determine what is or is not a strategic deposit is vested

in the State Great Hural or Parliament. To date, the GOM has only

identified world class copper and coal reserves and all deposits of

rare earths and uranium as reaching this threshold.



If a mineral deposit is determined to be strategic and if the state

has contributed to the exploration of the deposit at some point, the

GOM may claim up to 50 percent. If the deposits were developed with

private funds and the state has not contributed to the exploration

of the deposit at any time, the GOM may acquire up to 34 percent of

that deposit.



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State participation (or share) is determined by an agreement on

exploitation of the deposit considering the amount of investment

made the state; or, in the case of a privately-explored strategic

deposit, by agreement between the state and the firm on the amount

invested by the state. Parliament may determine the state share

using a proposal made by the government or on its own initiative

using official figures on minerals reserves in the integrated state

registry.



Importantly, the state equity provision is not expropriatory on its

face, because the GOM has committed itself to compensating firms for

the share it takes at fair market value. Although experience is

limited with the law, so far the GOM has honored this commitment, as

experience with the recently signed agreement for the mega Oyu

Tolgoi copper-gold mine project confirms.



In addition, the current Minerals Law restricts the access of

petroleum and mineral licenses to entities registered in Mongolia

under the terms of the relevant company and investment laws. A

foreign entity, in its own right, cannot hold any sort of mining or

petroleum license. Should a foreign entity acquire a given

license as either collateral or for the purpose of actual

exploration or mining, and fail to create the appropriate Mongolian

corporate entity to hold a given license, that failure may serve as

grounds for invalidating the license. In essence, the foreign

entity may lose its security or its mining rights. We advise

investors with specific questions regarding the current status of

their respective licenses to seek professional advice on the status

of those licenses.



Reaching Agreement on the Oyu Tolgoi Project



In October 2009, the GOM, Ivanhoe Mines of Canada, and Rio Tinto

jointly negotiated an investment and development agreement for the

Oyu Tolgoi (OT) copper- gold deposit located in Mongolia's South

Gobi desert. The OT agreement vests the government of Mongolia with

34 percent ownership of the project and provides guarantees for

local employment and procurement. With estimated development costs

in excess of USD seven (7) billion, this 40-year plus mine is

conservatively expected to double Mongolia's annual GDP when it

becomes fully operational around 2020.



Observers of Mongolia's investment climate consider passage of this

agreement an unambiguously positive sign for foreign investors.

Although the deal took about six years to craft and several

conditions must still be met before implementation begins, nearly

all observers conclude that it shows Mongolia can say "Yes" to key

projects undertaken with foreign involvement and investment. In

addition, the agreement confirms the GOM's commitment to

compensating private rights holders of most deposits considered

strategic under the current minerals. Finally, the OT deal shows

that the GOM and Parliament are willing to amend laws and

regulations to enhance the commercial viability of mining projects

in Mongolia. As other projects of varying scales have been waiting

for OT to pass, the positive impact and message of the OT deal for

investors should not be underestimated.



2009 Laws Negatively Affecting Investor Rights



Although the OT deal was the big positive story for foreign

investors in 2009, the impact has been moderated by the passage of

two key laws that many foreign and domestic investors think detract

from Mongolia's claims to being a competitive, safe, and predictable

destination for investment.



The 2009 Uranium Law of Mongolia



In 2009 the Parliament imposed significant new controls on mining

and processing uranium in Mongolia. The law creates a new

regulatory agency, the Nuclear Regulatory Authority of Mongolia

(NRA),and a state-owned holding company, MonAtom, to hold assets



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that the government will acquire from current rights holders. The

law imposes several conditions:



--Immediately revokes all current uranium exploration and mining

licenses and then requires all holders to register these licenses

with the NRA, for a fee.



--Requires investors to accept that the Mongolian state has an

absolute right to take -- without compensation -- at least 51

percent of the company that will develop the mine -- as opposed to

just the deposit -- as a condition of being allowed to develop any

uranium property.



--Creates a uranium-specific licensing, regulatory regime

independent of the existing regulatory and legal framework for

developing mineral and metal resources. Prior to the Uranium Law,

exploration licenses gave their respective holders the rights to

discover and develop any and all mineral and metal resources

discovered within that license area (this did not include petroleum

resources, which are governed separately). According to GOM

officials, this new law means that the state can issue a distinct

license for uranium exploration on a property otherwise dedicated to

other mineral and metals exploration.



The Law on the Prohibition of Minerals Exploration in Water Basins

and Forested Areas of 2009



In 2009, the Parliament passed a law prohibiting mining in water

basins and forested areas of Mongolia. The stated intent was to

limit environmental damage caused primarily by placer gold mining in

and around forests and watersheds. The law imposes the following

restrictions on exploration and mining rights:



--Revokes or modifies licenses to explore for or mine any and all

mineral resources within an area no less than 200 meters from a

water or forest resource.



--Requires the government to compensate rights holders for

exploration expenses already incurred or revenue lost from actual

mining operations.



--Empowers local officials to determine the actual areas which can

be mined. In effect, the local official can extend the 200 meter

minimum at his discretion.



Both foreign and domestic investors have unambiguously criticized

these new laws and their respective implementations as both

non-transparent and potentially expropriatory. They argue that

these laws radically change the rules for investing in Mongolia's

vital minerals sector quite late in the game, raising the question

of Mongolia's reliability as an investment destination.



Further, observers note that these laws also raise the specter of

outright expropriation, which heretofore has not been present in

Mongolia. Although the Water Law requires compensation, the

government of Mongolia has not devised detailed plans for

indemnifying rights holders. In regards to the Uranium law, the

legislation explicitly rejects any obligation to compensate

investors for loss of economic rights and property; hence,

generating credible investor fears of government of expropriation.





Investors note that both laws passed without sufficient public

review and comment; and that the subsequent regulatory drafting

process occurred with little participation of the affected parties.

The resulting regulatory regimes do not generally specify how and on

what basis licenses will be revoked, nor do these new process detail

how investors might appeal non-renewals. The open-ended powers

seemingly granted Mongolian officials seem to give central,

regional, and local officials broad discretionary powers to curtail

rights without apparent limit.





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Pending Elimination of the Windfall Profits Tax on Copper and Gold



Since passage in 2006, the Windfall Profits Tax Law has drawn

criticism regarding the GOM's commitment to creating an open,

predictable, and fair environment for foreign direct investment.

The speedy legislative process for passing the WPT was

unprecedented: The law passed in six days with no consultation on

any of its provisions with stakeholders. The entire process raised

concerns among investors about the stability and transparency of

Mongolia's legislative and regulatory environment, which three

intervening years of legislating have done little to alleviate.



The WPT imposes a 68 percent tax on the profits from gold and copper

mining respectively. For gold, the tax originally kicked in when

gold price hit USD500 per ounce; however, in late 2008 Parliament

raised the threshold to USD850. For copper, the threshold is USD

2,600 per ton. Mining industry sources claim that the 68 percent

tax rate, when combined with other Mongolian taxes, makes the

effective tax 100 percent on all proceeds above the copper threshold

price. In theory, the WPT proceeds are set aside in a special fund

for a combination of social welfare expenditures and a reserve fund,

although that fund, too, was modified in late 2009.



The recent OT Investment Agreement entailed further amendment to the

WPT as a condition precedent to its passage. OT's private investors

successfully argued that they would not be able to run a

commercially viable OT operation when faced with the WPT.

Consequently, Parliament amended the WPT Law: The WPT will

officially end for all copper concentrate and gold products in 2011.





Revisions of the Mongolian Tax Code



Effective since January 1, 2007, the current tax code reduces tax

rates, flattens the tax schedule, removes discriminatory loopholes

and exemptions, and provides for appropriate deduction opportunities

for corporate investment. The current code allows firms to deduct

more types of legitimate business expenditures: training, business

travel, cafeteria expenses, etc. The law also imposes a level

playing field between foreign and domestic investors. Specifically,

the current code eliminates the majority of discriminatory tax

exemptions and holidays (most of which favored international

investors).



As with the WPT, the OT Agreement had a salutary effect on key tax

provisions long-desired by foreign and domestic investors alike.

Before OT, firms could only carry-forward losses for two (2) years

after incurring the loss While most businesses approved of this

provision, many, especially those requiring large and long-term

infrastructure development, note that the two year carry-forward

limit is insufficient for projects with long development lead times,

as is typical of most large-scale mining developments. As a

condition precedent of passing the OT Agreement, Parliament extended

loss-carry forward to eight (8) years.



On the down side, Mongolia's Parliament revoked an exemption

available on value-added tax (VAT) taxes of 10 percent on equipment

used to bring a given mine into production, except on equipment to

be used in the production of highly processed mining products. For

example, if the OT project decides to smelt copper, imported

equipment supporting production of metallic copper might qualify for

a 10 percent reduction on VAT. However, in a effort to promote

value-added production in Mongolia, the GOM defines the production

of copper concentrate -OT's likely copper product - as

non-value-added output; and so, equipment imported to develop and

operate this sort of operation would not qualify for the 10 percent

VAT exemption.



Most jurisdictions, recognizing that most mines have long

development lead times before production begins, either waive or do

not tax such imports at all. Parliament, with no consultation with

investors, international advisors provided by donor organizations,



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or even of its own tax officials, chose to impose the VAT, which

immediately makes Mongolian mining costs 10 percent higher than they

would otherwise be, impairing competitiveness and dramatically

varying from global practice.



Whether any mining output qualifies for this exemption seems

completely at the discretion of the GOM, which has not set out in

regulation or statute a process by which it will regularly

adjudicate such VAT exemption requests.



Unfinished Business (Including Customs Rates)



Both the GOM and Parliament continue to intend to debate additional

tax reform measures. Discussed since 2007, no substantive progress

has been made since. Proposed measures include revisions to the law

on customs and customs tariffs. While the exact nature of the

proposed changes in the customs law remains murky, the GOM states

that changes will be consistent with Mongolia's WTO obligations and

investment climate enhancement goals.



Despite overall solid, positive changes, international financial

institutions warn that the 2007 tax reforms by themselves are

insufficient to improve Mongolia's business environment. They

report that reform efforts need to go beyond changes to the tax code

to restructure the operations of the key agencies - the tax

department, the customs administration and the inspections agency -

that directly interact with private firms and individuals.



Issues in the Telecom and Aviation Sectors



While the Mongolian government supports FDI and domestic investment,

both foreign and domestic report that individual agencies and

elements of the judiciary often use their respective powers to

hinder investments into such sectors as meat production,

telecommunications, aviation, or pharmaceuticals. Investors report

similar abuses of inspections, permits, and licenses by Mongolian

regulatory agencies.



Abuses in Mongolia's telecom and information technology sector have

raised public and business concerns. The state-owned telecom

company, Mongol Telecom (MT) uses its regulatory and technical clout

to forestall or attack competition. As the monopoly supplier of

land-based lines through which much internet traffic has

traditionally flowed, MT charges predatory rates for access to all

other Internet Service Providers (ISPs) at a rate 10 times the

charges assessed to the state-owned ISP. These per-minute charges

add up and are hard for competitor ISPs to absorb. In addition,

some observers believe that the GOM, in an effort to make Mongol

Telecom more attractive for privatization, is inclined to make MT

the sole portal for all telecommunication into Mongolia. The

apparent intent here is to require licenses for both

telecommunication services and technology, which only MT could

satisfy. There has been significant lobbying against this policy by

ISPs, voice-over IP providers, cellular rights holders,

multi-lateral organizations, and diplomatic missions as contrary to

Mongolia's own competition law and long-term interests. So far

these efforts have delayed the passage of any damaging legislation.



Compounding these problems are the non-transparent activities of the

Mongolian Information, Communication Technology, and Post Agency

(ICTPA),which is charged with providing policy guidance to the

Communication Regulatory Commission of Mongolia (CRC). Companies

report that these agencies routinely act in ways that seem to have

no basis in law or regulation and which have harmed American

interests, not to mention those of investors from Mongolia and other

countries. For example, ICTPA has attempted to order internet

service providers to charge set access prices, without recourse to

the market. The CRC routinely tenders licenses for frequency and

information technology service allocation through a completely

non-transparent process that invariably seems to favor certain

domestic interests over other Mongolian companies and foreign

investors. While agreeing that the GOM has an interest in



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allocating frequency, domestic and foreign investors question why

either the ICTPA or CRC need to interfere in the provision of ICT

services, which they believe should be left to the consumers to

decide.



The state also involves itself in the domestic aviation sector.

Mongolia has two domestic service providers, the privately owned

Aero Mongolia and EZNIS. Government regulation recommends maximum

ticket prices that airlines may charge for all domestic routes, but

the law does not strictly forbid airlines from charging fees higher

than the state carrier (which does not currently operate

domestically). However, the GOM frowns on domestic airlines that

charge more for service. These state prices are well below

operating costs and inhibit the private carriers from charging a

break-even fee. However, private carriers have decided to shake off

GOM prohibitions and are charging rates that might yield profits and

support safe and efficient flying arrangements.



State-owned MIAT formerly ran domestic operations which were heavily

subsidized, primarily through its foreign routes. This

state-subsidized competition with private carriers has inhibited

investors from participating in the provision of private domestic

service and consequently limited the aviation products and services

that U.S. firms might sell into the Mongolian market. Apart from a

brief and no-longer operating domestic service in 2009 using

aircraft from their international fleet, MIAT and the GOM have

failed to upgrade the domestic air fleet, which is effectively

non-existent. This seems to have opened the field for private

investment into the aviation sector.



The Mongolian Judiciary and the Sanctity of Contracts



We find no concerted, systematic, institutional abuse specifically

targeted at foreign investment. In the case of the

judiciary-corruption aside (see A. 11 Corruption)-most problems

arise from ignorance of commercial principles rather than antipathy

to foreign investment. In principle, both the law and the judiciary

recognize the concept of sanctity of contracts. However, the

practical application of this concept lags, with both foreign and

domestic investors reporting inconsistent enforcement of contracts

by the judiciary. This inconsistency comes from the slow transition

from Marxist-based jurisprudence to more market oriented laws and

judicial practices. Recent decisions in banking and land use cases

in which contract provisions were upheld reflect a growing

commercial sophistication among Mongolia's judges. As more judges

receive commercial training and as Soviet era (1921-1990) jurists

retire, we expect to see the gradual improvement of the entire

judicial system.



Concerns over Exit Visa's

Although not strictly a judicial issue, in 2009 a trend intensified

involving abuse of the country's requirement for exit visas by both

Mongolian public and private entities to exert pressure on foreign

investors to settle commercial disputes. The required valid exit

visas are normally issued at the port of departure (e.g. the

international airport),but may be denied for a variety of reasons

including civil disputes, pending criminal investigation, or for

immigration violations. If denied for a civil dispute, the visa may

not be issued until either the dispute is resolved administratively

or a court has rendered a decision. Neither current law nor

regulations establish a clear process or time-table for settlement

of the issue. Nor does the law allow authorities to distinguish a

criminal and civil case when detaining a person. In fact, the

Mongolian government maintains the right to detain foreign citizens

indefinitely without appeal until the situation has been resolved.



Research into issue has revealed that investors from countries other

than the U.S. are being affected by abuse of the exit-visa system.

All cases have a similar profile. A foreign investor has a

commercial dispute with a Mongolian entity, often involving assets,

management practices, or contract compliance. The Mongolian

entities respond by filing either civil or criminal charges with



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local police or prosecutorial authority. It is important to note

that at this point there need be no actual arrest warrant or any

sort of official determination that charges are warranted: Mere

complaint by an aggrieved party is sufficient grounds to deny exit.

We should note that Mongolian investors are not subject to similar

detention when involved in commercial disputes. Mongolian citizens

do not require exit visas to depart Mongolia and can only be denied

exit with if an actual arrest warrant has been issued.



An investor in this situation is effectively detained in Mongolia

indefinitely. Some foreign investors have resolved the impasse by

settling, allowing them to depart Mongolia. If unwilling to settle,

the foreign investor will have to undergo the full investigatory

process, which may lead to a court action. Investigations commonly

take up to six months, and in one case an American citizen has been

denied an exit visa for two years pending a criminal investigation

into a failed business deal. In addition, even if a dispute seems

settled, it can be filed in the same venue again -- if the local

police and prosecutors are willing -- or in a different venue.



Privatization Policies and Resistance of Mongolian firms to Foreign

Investment



Privatization policies have favored foreign investment in some key

industries, including banking and cashmere production. The bidding

processes for privatizations and other tenders have generally been

transparent, and after some legal disputes among the winners and

losers lasting from late 2006 through mid-2008, most participants

have accepted the results.



Although the GOM routinely announces that it plans to privatize its

remaining assets, we have seen little real movement to privatize

state holdings in the aviation, telecommunications, power, and

mining sectors. Recent moves by the GOM to acquire assets in the

minerals sector - especially in uranium and coal -suggest to some

that, to the contrary, the GOM has no intention to extract the state

from ownership.



That said, the GOM has recently discussed initial public offerings

(IPO) for certain state-owned power, infrastructure, and mining

holdings. To date, the IPO discussion has developed at the

conceptual level, with little focus on the details.



Foreign companies and investors are subject to the same legal regime

imposed on Mongolian domestic firms regarding incorporation and

corporate activities. For example, casinos are illegal under

Mongolian law; and so, neither Mongolians nor foreigners may own or

operate them (except in one specifically designated free trade zone,

although no casino has been established there).



Generally, Mongolian private businesses seek foreign participation

and equity in all sectors of the economy. That said, some Mongolian

businesses use Mongolian institutions to stop competitors, if they

can. These actions represent no animus against foreign investment

as such; rather, they reflect individual businesses desire to keep

competitors, Mongolian or foreign, at bay.



Key Investment Laws



The Foreign Investment Law of Mongolia (FILM) transformed the

anti-business environment of the Soviet era into today's generally

investor-friendly regime. Under the old system, everything not

provided for in law was illegal. Because such economic activities

as franchising, leasing, joint venture companies were not

specifically mentioned in earlier Mongolian statutes, they were

technically illegal. In 1993, the GOM enacted FILM to legalize all

manner of foreign investment in Mongolia (amended in 2002 to allow

for representative offices and franchises). This law and its

subsequent amendments define broad ranges of activity that would

otherwise have limited validity under Mongolian law. It also

defines the meaning of foreign investment under the civil code

without limiting activities that foreign investors can conduct.



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FILM also establishes registration procedures for foreign companies.

Specifically, the law requires that any investment with 25 percent

or more of FDI must register as a foreign-invested firm with the

government. The law creates a supervisory agency, the Foreign

Investment and Foreign Trade Agency (FIFTA),that runs the

registration process, liaises among businesses and the Mongolian

government, and promotes in- and out-bound investments.



In 2008, the Parliament of Mongolia amended the FILM. The stated

intent of the revision was to improve FIFTA's ability to track

foreign investment and to enhance the services provided by FIFTA to

foreign investors. The amendments apply only to investments

registered after the new law came into force in summer 2008. The

new law has raised the minimum level for new foreign investment from

USD 1,000 to USD 100,000 and imposed a series of requirements on

foreign investors seeking registration. Registered foreign

companies must now have FIFTA certify that their by-laws,

environmental practices, their technologies, etc., comply with

standards determined by FIFTA.



FIFTA officials admit that procedures are still under development;

and that because they lack specific expertise in most of these

areas, they will have to consult with the relevant ministries and

agencies as they assesses each firm's request for investment

registration. FIFTA has also not clearly defined what the precise

processes it will use to evaluate investments, what the exact

standards will be for any given investment, how it will determine

those standards, and how an investor might seek redress if FIFTA

denies a registration request. Foreign investors have expressed

concern over what they perceive as FIFTA's broad and seemingly

un-transparent regulatory authority; however, we have not received

any complaint of abuse of these new powers to date.





New Ministerial Structure Impacts Foreign Investment



In late 2008, the Parliament re-organized the government structure

by combining various ministries and agencies in an effort to

streamline government functions. Relevant to foreign investors,

Parliament took trade policy and trade promotion functions that had

been vested in the former Ministry of Industry and Trade (MIT) and

FIFTA respectively and merged them with the Ministry of Foreign

Affairs. The new Ministry of Foreign Affairs and Trade (MFAT) has

assumed direct control all formulation and execution of trade

policies and promotion efforts, which includes export promotion and

in-bound investment efforts. FIFTA is now under MFAT's direct

supervision. Other units of MIT were absorbed by the now-named

Ministry of Food, Agriculture, and Light Industry and Ministry of

Nature, Environment, and Tourism.



Ministry officials have stated that the government will concentrate

on promoting Mongolian exports and foreign investment into Mongolia.

They want FIFTA to resemble counterpart agencies in South Korea,

Japan, or the U.S.; and have told both us and businesses that they

plan to get FIFTA out of the regulatory business. The intent is to

limit FIFTA's activities to supporting business in their efforts to

work in Mongolia and to registering in-bound investment for purposes

of investment tracking only.





A.2 CONVERSION AND TRANSFER POLICIES



The Mongolian government employs a limited regulatory regime for

controlling foreign exchange for investment remittances and

maintains exceptionally liberal policies for these transactions.

Foreign and domestic businesses report no problems converting or

transferring investment funds, profits and revenues, loan

repayments, or lease payments into whatever currency they wish to

wherever they wish. There is no difficulty in obtaining foreign

exchange, whether the investor wants Chinese Renminbi, Euros,

English Pounds, Rubles, or U.S. Dollars.





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In regards to domestic transactions, the Parliament of Mongolia in

2009 closed a loophole that allowed local transactions to occur in

any currency desired. Now, all domestic transactions must be

conducted in Mongolia's national currency, the Tugrik, excepting

those entities allowed specific waivers as determined by the

Mongolian central bank, the Bank of Mongolia.



The Mongolian government wants funds to flow easily in and out of

the nation, with one exception. Foreign-held interest bearing

dollar accounts remain subject to a 20 percent withholding tax. The

bank retains 20 percent of all such interest payments sent abroad,

and remits this withholding to the Tax Authority of Mongolia.

Otherwise, businesses report no delays in remitting investment

returns or receiving in-bound funds. Most transfers occur within

1-2 business days or at most a single business week.



Ease of transfer aside, foreign investors criticize Mongolia's lack

of sophisticated mechanisms for converting currencies and parking

money. Letters of credit are difficult to obtain, and legal

parallel markets do not exist in the form of government dollar

denominated bonds or other instruments for parking funds in lieu of

payment. Many Mongolian financial institutions lack experience with

these arrangements. Moreover, Mongolian banking law currently

provides incomplete statutory grounds and regulatory support for the

activity to take place. The immediate impact has been to limit

access to certain types of foreign capital, as international

companies resist parking cash in Mongolian banks or in local debt

instruments.



A.3 EXPROPRIATION AND COMPENSATION



Mongolia respects property rights as they apply to most asset types.

In 2009, we detected no wide-scale changes in policies, statutes,

or regulations related to the use and ownership of private property.

Foreigners face no legal bias in asset ownership (except that only

citizens of Mongolian may own land) or how they structure ownership.

Foreign investors need not seek local partners or share ownership

of most assets or endeavors as a condition of doing business.

However, in foreign-investor dependent crucial mining sector, 2009

saw the government of Mongolia (GOM) cross from actions that might

represent "creeping expropriation" to what many consider explicitly

expropriatory acts sanctioned through force of law, especially in

the uranium mining sector.



Security of Ownership



Mongolia and the United States signed and ratified a Bilateral

Investment Treaty (BIT) which entered in force in 1997, and which

specifically enjoins both signatories from expropriatory acts

against private property and investments. In addition, both

Mongolian law and the national constitution recognize private

property and use rights and specifically bar the government from

expropriation of such assets. To date, the government of Mongolia

(GOM) has not expropriated any American property or assets. Thus,

we have no precedent from which to assess how the Mongolian system

would respond to seizure and compensation.



Like most governments, the Mongolian government can claim land or

restrict use rights in the national interest. Currently, this means

little, as most land outside Mongolia's few urban centers remains

government property, as provided in Mongolia's constitution. The

government has no plans to privatize these vast countryside

holdings, but it leases parcels for such economic activities as

mining, pasturage, timbering, etc. This practice remains in flux

because the government must still determine how to let these rights

and what fees to charge. Except for mining, most foreign firms

remain inactive in these sectors.



Since May 2003, land in the urban areas has been privatized to

citizens of Mongolia or leased to both citizens and foreigners for

periods ranging from 3-90 years. The legislation and implementing

regulations are evolving, but so far investors believe that the GOM



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generally respects recently enacted property rights and leases.



I: Implications of the Current Minerals Laws



Minerals Law of 2006



We closely watch the key mining sector, Mongolia's major foreign

exchange earner and chief engine for economic and commercial growth

and development. The current Minerals Law has several provisions

that raise red flags for investors and observers alike. The law

does not allow the GOM to usurp rights to explore and exploit

natural mineral, metal, and hydrocarbons resources per se. Instead,

the law imposes procedural requirements and grants powers to

central, provincial, and local officials - powers that, if abused,

might prevent mineral license holders from exercising their

exploration or mining rights. The current law has the potential to

deny the rights holder access to his rights without formally

revoking use rights.



An example is the new tender process for apportioning some

exploration rights. The old law awarded exploration rights on a

"first come, first served" basis, a process that gave little

discretion to government officials to intervene. The new law lays

out a different procedure for obtaining exploration rights on land

explored with state funds or lands where the current holder has

forfeited exploration rights. The Mineral Resources Authority of

Mongolia (MRAM) will tender such exploration rights only to firms

technically qualified to conduct minerals work. The new tender

procedure neither requires nor allows for a cash-bid. Only the

technical merits of exploration proposals will determine who gains

exploration rights. MRAM staff has the authority and responsibility

to assess the merits of proposals to determine who wins the

tenders.



Both MRAM and its supervising authority, the Ministry of Mineral

Resources and Energy, now have broad discretionary authority to

select who will get tenements. Under the current system, it is

possible for a company to prospect virgin territory, and scope out a

potential exploration site, only to risk losing the site should MRAM

decide to grant the rights to another exploration company. This

authority disturbs miners, who fear this power will be the source of

corruption and arbitrary decisions by MRAM. Evidence suggests that

local mining guilds will define an expert in Mongolian mining as a

person who received a degree from a Mongolian institution, such as

the National University, rather than an internationally recognized

institution. While this enforced employment program for Mongolian

geologists would be an annoyance, the discretionary power MRAM now

has generates the most concern. If MRAM rejects a firm's experts

and mining plan as unqualified, no recourse is spelled out under the

new law, and the firm will in effect lose its rights.



The concept of "expertise" allows another potential avenue for

expropriation of rights by denying or preventing their use. The law

has the potential to limit the ability of rights holders to seek

financing, because it forbids transfer of mining licenses and

exploration rights to non-qualified individuals. Consequently, a

miner will not be able to offer his licenses as secured collateral

to banks or to any lender lacking the professional qualifications to

receive these rights if the miner defaulted on his debt obligations.

A given bank is unlikely to set up a "qualified" mining firm just

to receive a pledged license offered as collateral. Thus, the law

limits the investment pool that a mining firm might tap to finance

its mine, which might prevent bringing a property into production,

again denying licensees access to their legal economic rights.



The current law removed from its predecessor the Mongol word for

"exclusive" from the grant of exploration rights. The old article

read, "To conduct exclusive exploration for minerals within the

boundaries of an exploration area in accordance with this law." The

new article reads, "To conduct exploration for minerals. . . ." It

is unclear what, if anything, this deletion means. However, the

deletion would seem to allow the government to apportion mineral



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rights per metal or mineral rather than as a whole, which has been

the standard practice. The deletion was apparently done

intentionally, as the word appeared in earlier drafts, right up to

the passage of the law.



Investors and observers are also concerned about new authority

granted to the MRAM Chairman to approve transfers of existing and

new licenses. The law grants final approval authority to the MRAM,

without specifying any check or balance on this official's

authority. This power is not a revocation but if abused would

certainly prevent exercise of economic rights.



Complicating matters is that in 2008 MRAM had been moved under the

direct authority of the Ministry of Mineral Resources and Energy in

a sweeping re-organization of the government. Prior to this

restructuring, MRAM had been a quasi-independent agency, the acts of

which did not require ministerial approval. In the new structure,

the ministry can intervene in the registration and transfer of

exploration and mining licenses. The ministry seems to have only

intervened in cases where the license involves a "strategic"

deposit. (See A.1 Openness to Foreign Investment for explanation of

strategic deposits.) In this specific category, ministerial

officials have ordered MRAM to freeze all transfers and transactions

involving properties near or in strategic deposits, which includes

uranium deposits of any size and massive coal and copper deposits

near the Chinese border. Further, these same officials have

indicated that the government may then revoke the rights of those

holding exploration rights or mining licenses in or near strategic

deposits. Although the law seems to allow for compensation, the

ministry has not presented formal compensation packages or even

issued compensation guidelines to those potentially affected by its

actions.



Expropriatory Aspects of the 2009 Law on Uranium Mining



In 2009 the Parliament passed a new law imposing significant new

controls on mining and processing uranium in Mongolia. The law

created a new regulatory agency, the Nuclear Regulatory Authority of

Mongolia (NRA),and a state-owned holding company, MonAtom, to hold

assets that the government will acquire from current rights holders.

The law imposes several key policies:

--Immediately revokes all current uranium exploration and mining

licenses and then requires all holders to register these licenses

with the NRA, for a fee.



--Requires investors to accept that the Mongolian state has an

absolute right to take -- without compensation -- at least 51

percent of the company (as opposed to the deposit) that will develop

the mine as a condition of being allowed to develop any uranium

property.



--Creates a uranium-specific licensing, regulatory regime

independent of the existing regulatory and legal framework existing

for mineral and metal resources. Prior to the Uranium Law,

exploration licenses gave their respective holders the rights to

discover and develop any and all mineral and metal resources

discovered within that license area (this did not include petroleum

resources, which are governed separately). According to GOM

officials, this new law means that the state can issue a distinct

license for uranium exploration on a property otherwise dedicated to

other mineral and metals exploration.



To many foreign and domestic investors, this law is outright,

statutorily sanctioned expropriation, which heretofore had not been

present in Mongolia. Although the Minerals Law of Mongolia and

other pieces of legislation officially state that the GOM must

compensate rights holders for any taking, the Uranium Law gives the

GOM the unfettered right to take uranium holdings from whomever it

will with no obligation to compensate the rights holders.

Complicating the issue is that the law seems to conflate the deposit

and company mining the deposit, allowing the GOM to claim an

uncompensated share in any entity that might mine the deposit. In



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effect, the GOM is demanding a free-carried, non-compensated

interest of no less than 51 percent of any uranium mine.



Acts of Provincial Administrations:



With regard to the issuance of both exploration permits and mining

licenses, provincial officials reportedly routinely use their

authority arbitrarily to block access to mining rights legally

granted under the current law. For example, reports regularly

circulate that some provincial government officials use their

authority to designate land as "special use zones" to usurp mining

exploration tenements. In a common technique, provincial governors

often reclassify property that has never felt the touch of the plow

or felt the tread of a tourist for agricultural use or cultural

tourism respectively, although the central government has legally

granted exploration rights to miners. In one case, a miner could

not gain access to the subsurface resources because the provincial

government claimed that doing so would damage a potato farm that had

suddenly appeared over the site.



Other miners harshly criticize the misuse of the local officials'

rights to comment on permits for water use and mining licenses.

Comments are advisory, and have limited legal force regarding

disallowing activity, but the central government routinely hesitates

to reject a governor's negative comment no matter the motives behind

it. The effect has been to stop progress for months, limiting

access to the resource and costing rights holders' time and money.

Whatever the motives, these provincial actions are often seen as a

creeping bureaucratic expropriation through denial of access and use

rights. The current Minerals Law provides no clear limit on

provincial control of permits and special use rights or guidance on

how to apply these powers beyond codifying that the provincial and

local authorities have some authority over activities occurring in

their provinces and soums (counties).



Faced with these unclear boundaries of authority, the central

government often interprets the rules and regulations differently

from the provincial authorities, creating administrative conflicts

among the various stakeholders. The central government acknowledges

the problematic ambiguity but has yet to definitively clarify the

situation in law or practice, even though the situation threatens

accessing one's rights. Mongolian and foreign permit holders have

advised the government that letting this problem fester raises

perceptions among investors that they may risk losing their economic

rights, which can scare away inbound investors.



Expansion of License Revocation Powers to the Soum Level



The recently passed Law on the Prohibition of Minerals Exploration

in Water Basins and Forested Areas of 2009 represents a considerable

extension of unregulated authority to Mongolia's 320 soum (county)

administrations in regards to mining activities within their

respective jurisdictions.



In 2009, the Parliament prohibited mining in water basins and

forested areas of Mongolia. The stated and laudatory intent was to

limit environmental damage caused primarily by placer gold mining in

and around forests and watersheds. The law imposes the following

restrictions on exploration and mining rights:



--Requires the government of Mongolia to revoke or modify licenses

to explore for any and all mineral resources within an area no less

than 200 meters from a water or forest resource.



--Requires the government to compensate rights holders for

exploration expenses already incurred or revenue lost from actual

mining operations.



--Empowers local officials, the soum or county governors, to

determine the actual areas which can be mined. In effect, the local

official can extend the 200 meter minimum at his discretion.





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Current rights holders are concerned that the power of local

governors to curtail mining in their respective jurisdictions seems

unlimited and unregulated. Although the governor cannot allow

mining within the 200 meter limit, the law sets no upper limit on

mining near water courses and forests in the respective soum. The

local administration has full discretion to prohibit operations 400

meters, 600, 1000, or more. Mining companies have to work out the

issue with the local governor; and should any company disagree with

a given soum administration's ruling, the law makes no provision for

administrative appeal. A company would then have to pursue redress

through a lengthy case in Mongolia's courts. In either case, the

rights holder would lose access to their economic rights for a

protracted period or permanently.



A.4 DISPUTE SETTLEMENT



The GOM consistently supports transparent, equitable dispute

settlements, but executing good intentions has proven problematic.

These problems largely stem from a lack of experience with standard

commercial practices rather than from any systemic intent by public

or private entities to target foreign investors. The framework of

laws and procedures is functional, but many judges remain ignorant

of commercial principles.



Problems with Dispute Settlement in Mongolia's Courts



Court structure is straightforward and supports dispute settlement.

Disputants know the procedures and the venues. Plaintiffs bring

cases at the district court level before a single district judge or

panel of judges, depending on the complexity and importance of the

case. The district court renders its verdict. Either party can

appeal this decision to the Ulaanbaatar City Court, which rules on

matters of fact as well as matters of law. It may uphold the

verdict, send it back for reconsideration or nullify the judgment.

Disputants may then take the case to the Mongolian Supreme Court for

a final review. Matters regarding the constitutionality of laws and

regulations may be taken directly before the Constitutional Court of

Mongolia (the "Tsetz") by Mongolian Citizens, Foreign Citizens, or

Stateless Persons residing legally in Mongolia.



Problems arise for several reasons. First, commercial law in

Mongolia and broad understanding of it remain in flux. New laws and

regulations on contracts, investment, corporate structures, leasing,

banking, etc. have been passed or are being considered at both the

ministerial and parliamentary levels. Mongolian civil law does not

work on precedents but from application of the statute as written.

If a law is vague or does not cover a particular commercial

activity, the judge's remit to adjudicate can be severely limited or

non-existent. For example, until recently leasing did not exist in

the Mongolian civil law code as such, but seemed to be covered under

various aspects of Mongolian civil law regarding contracts and other

agreements. But judgments on leasing made under these laws might

not have applied to an arrangement not otherwise specifically

recognized under its own exclusive law. Further, because precedents

are not legally relevant or binding on other judges and Mongolian

courts, decisions reached in one case have no legal force in other

suits, even when the circumstances are similar or even before the

same court and judges.



Trained in the former Soviet era, many judges lack training in or

remain ignorant of commercial principles, in some cases willfully.

They dismiss such concepts as the sanctity of the contract. This is

not a problem of the law, which recognizes contracts, but what most

conclude is faulty interpretation. In several cases courts have

misinterpreted provisions regarding leases and loan contracts,

allegedly intentionally in some cases. Judges regularly ignore

terms of a contract in their decisions. If someone defaults on a

loan, the courts often order assets returned without requiring the

debtor to compensate the creditor for any loss of value. Judges

routinely assert that the creditor has recovered the asset, such as

it is, and that is enough. Bad faith and loss of value simply have

no formal standing in judicial calculations of equity.



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Replacing old-school judges is not an option. It is politically

impossible-if not functionally impractical-for the Mongolians to

dismiss its cadre of Soviet-era judges. There is a realistic hope

that young justices, trained in modern commercial principles by

international experts, will gradually improve judicial protections

for commercial activities in Mongolia. Lately, we have seen better

decisions in several cases involving Americans seeking to recover on

debts and contractual fees and to hold Mongolian government entities

to the terms of their respective contracts and regulations, but

these results tend to be limited to courts where modern-educated

judges preside.



Bankruptcy and Debt Collection



Mongolia's bankruptcy provisions and procedures for securing the

rights of creditors need serious reform. Mongolian law allows for

mortgages and other loan instruments backed with securitized

collateral. However, rudimentary systems for determining title and

liens and for collecting on debts make lending on local security

risky. Banks frequently complain that onerous foreclosure rules are

barely workable and unfair to creditors.



Although a system exists to register immovable property-structures

and real estate-for the purpose of confirming ownership, the current

system does not record existing liens against immovable property. In

addition, no system exists to register ownership of, and liens on,

movable property. Consequently, Mongolian lenders face the added

risk of lending on collateral that the debtor may not actually own

or which may have already been offered as security for another debt.

It is hoped that a project sponsored by the Millennium Challenge

Corporation to create a more modern and efficient property

registration system will help improve the ability of creditors and

debtors to prove ownership. For program details go to

http://www.mca.mn.



Overall, the legal system does recognize the concept of

collateralized assets provided as security for loans, investment

capital, or other debt-based financial mechanisms. The legal system

also provides for foreclosure, but this process is exceptionally

onerous and time consuming. A 2005 change to Mongolian law

attempted to simplify the process by allowing creditors to foreclose

without judicial review. Prior to this law, all creditors had to go

to court to collect on securitized collateral, adding months to the

entire collection process. However, the Constitutional Court of

Mongolia voided the law on constitutional grounds, slowing down debt

collection to pre-2005 levels. Waits of up to 24 months for final

liquidations and settlement of security were not uncommon.



Once a judgment is rendered, the disputant faces a relatively

hostile environment to execute the court's decision. For example, a

bank collecting on a debt in Mongolia must allow debtors to put

forward assets for auction and set the minimum bid price for those

assets. If assets do not sell, a second round of auctions occurs in

which a reduced minimum bid is put forward. The State Collection

Office (SCO) supervises this process but does not set the price.

However, the SCO receives 10 percent from the sales price or from

the second auction minimum price even if there is no sale.



The SCO does not allow collateralized assets to be valued by neutral

third parties. Because it derives income from the forced sale of

assets, the SCO has a conflict of interest; and, anecdotally, seems

to have failed as an impartial arbiter between debtors and

creditors. For banks, this has meant that forcing a company into

bankruptcy may be the safest way to recover rather than forcing

piecemeal sales of assets. This approach automatically puts all

assets into play rather than those selected by the debtor. However,

this procedure is onerous without a clear process behind it.



Purchase financing remains tricky. For example, a local car dealer

financed an auto for USD 20,000 down and USD 60,000 in credit,

complete with a local bank guarantee. The buyer subsequently

defaulted on the loan, the bank refused to honor its guarantee, and



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the dealer took the buyer to court. Under current Mongolian law,

interest payments are suspended for the duration of such a case,

from first filing to final appeal before the Supreme Court of

Mongolia. Possibly months of interest-free time can pass while the

asset rusts in an impound lot. In this case, the dealer simply

reclaimed the car and dropped the lawsuit, swallowing the lost

interest payments and loss of value on the car. Domestic and

foreign businesses often respond by requiring customers to pay in

cash, limiting sales and the expansion of the economy.



Binding Arbitration: International and Domestic



The Mongolian government supports and will submit to both binding

arbitration and international settlement procedures. However,

glitches remain in local execution. Mongolia ratified the

Washington Convention and joined the International Centre for

Settlement of Investment Disputes in 1991. It also signed and

ratified the New York Convention in 1994.



To our knowledge, the government of Mongolia has accepted

international arbitration in five disputes where claimants have

asserted the government reneged on a sovereign guarantee to

indemnify them. In all cases the government has consistently

declared that it would honor the arbitrators' judgments. However,

this resolution has not been put to the test. In the four cases

where a decision has been rendered, Mongolia has won each case; and

so, its commitment to imposing a negative international arbitral

decision remains untested.



More widely, Mongolian businesses partnered with foreign investors

accept international arbitration, as do government agencies that

contract business with foreign investors, rather than avail

themselves of the Arbitration Bureau operated by the Mongolian

National Chamber of Commerce and Industry. These entities tell us

that they seek redress abroad because they perceive that domestic

arbitrators are too politicized, unfamiliar with commercial

practices, and too self-interested to render fair decisions.



Although arbitration is widely accepted among business people and

elements of the government, support for binding international

arbitration has not penetrated local Mongolian agencies responsible

for executing judgments. In two cases, the Mongolian-state-owned

copper mine lost two international arbitral cases. The awards were

certified and recognized as valid and enforceable by Mongolian

courts. But the local bailiff's office has consistently failed to

execute the collection orders. Local business people routinely cite

the failure of SCO and the bailiffs to enforce court-ordered

foreclosures and judgments as the most common problem threatening

resolution of debt-driven disputes.



A.5 PERFORMANCE REQUIREMENTS AND INCENTIVES



Mongolia imposes few performance requirements on, and offers few

incentives to, investors. The few requirements imposed are not

onerous and do not limit foreign participation in any sector of the

economy. Performance requirements are applied somewhat differently

to foreign investors in a limited number of sectors.

Formally quite generous to foreign investors, the current Tax Law of

Mongolia (amended in 2006) offers few incentives and exemptions.

While preferential tax agreements made with most foreign investors

have been allowed to run their courses, the government of Mongolia

(GOM) has attempted to limit both exemptions and incentives and to

make sure that tax preferences offered are available to both foreign

and domestic investors.



Current exemptions are granted for imports of staples as flour and

for imports in certain sectors targeted for growth, such as the

agriculture sector. Exemptions apply to both import duties and

Mongolia's value-added tax (VAT). In addition, the GOM will extend

a 10percent tax credit on case by case basis to investments in such

key sectors as mining, agriculture, and infrastructure.





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Foreign investors have accepted phasing out of tax incentives,

because the amendments have brought some needed best practices to

the tax code. These include provision for 8-year

loss-carry-forwards, five-year accelerated depreciation, and more

deductions for legitimate business expenses including but not

limited to marketing and training expenses.



Revocation of the VAT Exemption



Investors view 2009's changes into the tax code's treatment of

exemptions as something of a mixed bag. On the down side,

Mongolia's Parliament revoked an exemption available on value-added

tax (VAT) taxes of 10percent on equipment used to bring a given mine

into production, except on equipment to be used in the production of

highly processed mining products. For example, if the Oyu Tolgoi

(OT) copper-gold project were to smelt copper, imported equipment

supporting production of metallic copper might qualify for an

exemption from the VAT. However, to promote value-added production

in Mongolia, the GOM defines the production of copper concentrate

-OT's likely copper product - as non-value-added output; and so,

equipment imported to develop and operate this sort of operation

would not qualify for the 10percent VAT exemption.



Most jurisdictions, recognizing that most mines have long

development lead times before production begins, either waive or do

not tax such imports at all. Parliament, with no consultation with

investors, international advisors provided by donor organizations,

or even with its own tax officials, chose to impose the VAT, which

immediately makes Mongolian mining costs 10percent higher than they

would otherwise be, impairing competitiveness and dramatically

varying from global practice.



Pro-Investment Changes to the Tax Code



On the plus side, Parliament revised both the Windfall Profit Tax

(WPT) and loss-carry forward provisions. Under the old regime, the

WPT imposed a 68percent tax on the profits from gold and copper

mining respectively. (For more details on the WPT see Chapter A.1:

Openness of Government to Foreign Investment.) The recent OT

Investment Agreement entailed further amendment to the WPT as a

condition precedent to its passage. OT's private investors

successfully argued that they would not be able to operate OT

commercially if burdened with the WPT. Consequently, Parliament

amended the WPT Law: The WPT will officially end for all copper

concentrate and gold products in 2011.



Regarding the granting of more generous loss carry-forward

provisions, as a condition precedent of passing the OT Agreement,

Parliament extended the provision from two (2) years to eight (8)

years after incurring a loss. Most investors find eight years

sufficient for many Mongolian investments that require impose long,

expensive development horizons before producing any sort of profit.



Few Restrictions on Foreign Investment



The government applies the same geographical restrictions to both

foreign and domestic investors. Existing restrictions involve

border security, environmental concerns, or local use rights. There

are no onerous or discriminatory visas, residence, or work permits

requirements imposed on American investors. Generally, foreign

investors need not use local goods, services, or equity, or engage

in substitution of imports. Neither foreign nor domestic businesses

need purchase from local sources or export a certain percentage of

output, or have access to foreign exchange in relation to their

exports.



Although there remains no formal law requiring the use of local

goods and services, the GOM encourages firms to do value-added

production in Mongolia, especially for firms engaged in natural

resource extraction. All Mongolian senior officials and politicians

make in-country processing a consistent feature of their public and

private policy statements regarding the development of mining. For



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example, the current but soon to sunset WPT applied the tax to

copper concentrate, but exempted metallic copper produced in

Mongolia. Recently concluded negotiations on the OT copper-gold

project ended with commitments by the companies to explore copper

smelting in Mongolia. Government talks on coal production

constantly feature discussions of power generation and coals-to-

liquid processing in Mongolia. Government plans also call for

increased investment in businesses and activities that keep the

"value" of a resource in Mongolia. Consequently, firms should

continue to expect the GOM to press aggressively for value-added

production in Mongolia.



Generally, foreign investors set their own export and production

targets without concern for government imposed targets or

requirements. There is no requirement to transfer technology. As

a matter of law, the government imposes no offset requirements for

major procurements. Certain tenders may require bidders to agree to

levels of local employment or to fund certain facilities as a

condition of the tender, but as matter of course such conditions are

not the normal approach of the government in its tendering and

procurement policies.



Investors, not the Mongolian government, make arrangements regarding

technology, intellectual property, and similar resources and may

generally finance as they see fit. Foreign investors need sell no

shares to Mongolian nationals. Equity stakes are generally at the

complete discretion of investors, Mongolian or foreign -- with one

key exception for strategic mining assets (For more detail on what

constitutes a strategic mining asset see Chapter A.1: Openness of

Government to Foreign Investment). Although Mongolia imposes no

official statutory or regulatory requirement, the GOM, as a matter

of foreign policy, sometimes negotiates restrictions on what sort of

financing foreign investors may obtain and with whom those investors

might partner or to whom they might sell shares or equity stakes.

These restrictive covenants will most likely be imposed in certain

sectors where the investment is determined to have national impact

or national security concerns, especially in the key mining sector.





Regarding employment, investors can locate and hire workers without

using hiring agencies-as long as hiring practices are consistent

with Mongolian Labor Law. However, Mongolian law requires companies

to employ Mongolian workers in certain labor categories whenever a

Mongolian can perform the task as well as a foreigner. This law

generally applies to unskilled labor categories and not areas where

a high degree of technical expertise not existing in Mongolia is

required. The law does provide an escape hatch for all employers.

Should an employer seek to hire a non-Mongolian laborer and cannot

obtain a waiver from the Ministry of Labor for that employee, the

employer can pay a fee of around USD140 per employee per month.

Depending on the importance of a project, the Ministry of Labor may

grant an employer a 50percent exemption of the waiver fees as an

incentive.



Limited Performance Requirements



Requirements in the Petroleum and Mining Sectors



Performance requirements are sparingly imposed on investors in

Mongolia with the exception of petroleum and mining exploration

firms. The Petroleum Authority of Mongolia (PAM) issues petroleum

exploration blocks to firms, which then agree to conduct exploration

activities. The size and scope of these activities are agreed upon

between PAM and are binding. If the firm fails to fulfill

exploration commitments, it must pay a penalty to PAM based on the

amount of hectares in the exploration block, or return the block to

PAM. These procedures apply to all investors in the petroleum

exploration sector.



Under the current Minerals Law of Mongolia, receiving and keeping

exploration licenses depends on conducting actual exploration work.

Each year exploration firms must submit a work plan and report on



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the execution of the previous year's performance commitments, all of

which are subject to annual verification by the Minerals Authority

of Mongolia (MRAM). Failure to comply with work requirements may

result in fines, suspension, or even revocation of exploration

rights. Work commitments expressed in terms of US dollar expenses

per hectare per year:



-2nd and 3rd years miners must spend no less than US D.50 per

hectare on exploration



--4th to 6th years miners must spend no less than US D1.00 per

hectare on exploration



--7th to 9th years miners must spend no less than US D1.50 per

hectare on exploration



In addition to these performance requirements, the law also requires

holders of mining licenses for projects of strategic importance to

sell no less than 10percent of company shares on the Mongolian Stock

Exchange. Vaguely presented in the statute, the GOM has provided no

formal clarification in law or regulation of what this provision

means in practical terms or how it is to be implemented.



In 2009 the Parliament passed a new law imposing significant new

controls on mining and processing uranium in Mongolia. This law

created a new regulatory agency, the Nuclear Regulatory Authority of

Mongolia (NRA) and a state-owned holding company, MonAtom, to hold

assets that the government will acquire from current rights holders.

The law imposes several conditions:



--Immediately revokes all current uranium exploration and mining

licenses and then requires all holders to register these licenses

with the NRA, for a fee.



--Requires investors to accept that the Mongolian state has an

absolute right to take -- without compensation -- at least 50percent

of the company (as opposed to the deposit) that will develop the

mine as a condition of being allowed to develop any uranium

property.



--Creates a uranium-specific licensing, regulatory regime

independent of the existing regulatory and legal framework existing

for mineral and metal resources. Prior to the Uranium Law,

exploration licenses gave their respective holders the rights to

discover and develop any and all mineral and metal resources

discovered within that license area (this did not include petroleum

resources, which are governed separately). According to GOM

officials, this new law means that the state can issue a distinct

license for uranium exploration on a property otherwise dedicated to

other mineral and metals exploration



Requirements Imposed on Foreign Investors Only



All foreign investors must register with the Foreign Investment and

Foreign trade Agency (FIFTA). The Foreign Investment Law of

Mongolia requires all foreign investors to show a minimum of USD

100,000 in assets (cash, working stock, property, etc.) registered

in Mongolia as a precondition for registration. In addition to this

particular requirement, all foreign investors must pay an initial

processing fee of some 12, 000 Mongolian tugrik or about USD 8.00.

Foreign Investors must then pay a yearly prolongation fee of 6,000

Mongolian tugrik or about USD 4.00.



In addition to these fees, foreign investors must annually report on

their activities for the coming year to the government through

FIFTA. Businesses need not fulfill plans set out in this report,

but failure to report may result in non-issuance of licenses and

registrations and suspension of activities. This requirement

differs from that imposed on domestic investors and businesses.

Local investors have no yearly reporting requirement. Mongolians

pay lower registration fees, which vary too much to say with any

precision what the fees actually are.



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FIFTA explains that the higher registration costs for foreign

investors arise from the need to compensate for the services it

provides to foreign investors, including assistance with

registrations, liaison services, trouble-shooting, etc. The

different reporting requirements provide the government with a

clearer picture of foreign investment in Mongolia. Foreign

investors are generally aware of FIFTA's arguments and largely

accept them, but they question the need for annual registrations.

Investors recommend that FIFTA simply charge an annual fee rather

than require businesses to submit a new application each year.



Regarding reports, foreign businesses are concerned about the

security of their proprietary information. Several foreign

investors have claimed that agents of FIFTA routinely use or sell

information on business plans and financial data. We have yet to

verify these claims, but FIFTA acknowledges that data security

largely depends on the honesty of its staff, as there are few

internal controls over access to the annual reports.



Tariffs



Mongolia has one of Asia's least restrictive tariff regimes. Its

export and import policies do not harm or inhibit foreign

investment. Low by world standards, tariffs of 5percent on most

products are applied across the board to all firms, albeit with some

concerns about consistency of application and valuation. However,

some non-tariff barriers, such as phyto-sanitary regulations, exist

that limit both foreign and domestic competition in the fields of

pharmaceutical imports and food imports and exports. The testing

requirements for imported drugs, food products, chemicals,

construction materials, etc., are extremely nontransparent,

inconsistent, and onerous. When companies attempt to clarify what

the rules for importing such products into the country are, they

receive contradictory information from multiple agencies.



WTO TRIMS Requirements



Mongolia employs no measures inconsistent with WTO TRIMs

requirements, nor has anyone alleged that any such violation has

occurred.



A.6 RIGHT TO PRIVATE OWNERSHIP AND ESTABLISHMENT



Mongolia has one of Asia's most liberal ownership and establishment

regimes. Unless otherwise forbidden by law, foreign and domestic

businesses may establish and engage in any form of remunerative

activity. All businesses can start up, buy, sell, merge; in short,

do whatever they wish with their assets and firms, with exceptions

in the mining and petroleum sectors.



Competition from the State-Owned Sector



Mongolia passed and implemented a competition law applying to

foreign, domestic, and state-owned entities active in Mongolia. As

a practical matter, competition between state-owned and private

businesses has been declining for the simple reason that many

parastatals have been privatized. The exceptions are the

state-owned power and telecom industries, a national airline

(international only at present),the national rail system

(half-owned by Russia),several coal mines, and a large copper

mining and concentration facility (also half-owned by Russia).



Currently, firms from Mongolia, China, Japan, Europe, Canada, and

the U.S. are actively seeking opportunities for renewable and

traditional power generation in Mongolia. However, few want to

invest in the power generation field until the regulatory and

statutory framework for private power generation firms up and

tariffs are set at rates allowing profits.



Regarding its railway sector, Mongolia has no plans to privatize its

existing railroad jointly held with the government of Russia, but



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current law does allow private firms to build, operate, and transfer

new railroads to the state. Under this law several private mining

companies have proposed rail links, and obtained licenses to

construct these new lines from their respective coal mines to the

Chinese border or to the currently operating spur of the

Trans-Siberian Railroad. However, because landlocked Mongolia and

its neighbors have yet to resolve transnational shipping issues,

companies may not be able to access rights granted under these

licenses.



Although the trend had been for the GOM to extract itself from

ownership of firms and other commercial assets, both the current

Minerals Law of Mongolia and the 2009 Uranium Law bring the state

back into mining. (See Chapter A.1: Openness of Government to

Foreign Investment for fuller discussions of both the 2009 Uranium

Law and Minerals Law) Under both laws, the GOM granted itself the

right to acquire equity stakes ranging from 34 percent to perhaps

100 percent of certain deposits deemed strategic for the nation.

Once acquired, these assets are to be placed with one of two

state-owned management companies: Erdenes MGL, for non-uranium

assets; or MonAtom for uranium resources. These companies are then

mandated to use the proceeds from their respective activities for

the benefit of the Mongolian people.



The role of state as an equity owner, in terms of management of

revenues and operation of the mining asset, remains unclear at this

point. There are some concerns over the capacity of the GOM to

deal with conflicts of interest arising from its position as both

regulator and owner of these strategic assets. Specifically, firms

are worried that the GOM's desire to maximize local procurement,

employment, and revenues may comprise the long term commercial

viability of any mining project. In addition, discussions are

underway to set up three new state-owned holding entities to manage

assets in three priority areas -- mining, energy, and infrastructure

-- then take the companies public to raise investment revenues

through the capital markets.



A.7 PROTECTION OF PROPERTY RIGHTS



The right to own private, movable and immovable property is

recognized under Mongolian law. Regardless of citizenship (except

for land which only citizens of Mongolia can own),owners can do as

they wish with their property. One can collateralize real and

movable property. If debtors default on such secured loans,

creditors do have recourse under Mongolian law to recover debts by

seizing and disposing of property offered as security. The only

exceptions to this liberal environment are current mining laws,

which either bar transfer of exploration and mining licenses to

third parties lacking professional mining qualifications or status

as a Mongolian registered entity, or which threaten to expropriate

without compensation certain mineral holdings outright.



Mongolia's Current Regime to Protect Creditors



The current protection regime for creditors functions but needs

reform. The legal system presents the greatest pitfalls. Although

the courts recognize property rights in concept, they have a

checkered record of protecting and facilitating acquisition and

disposition of assets in practice. Part of the problem is ignorance

of, and inexperience with, standard practices regarding land,

leases, buildings, and mortgages. As noted in Chapter A.4 Dispute

Settlement, some judges, largely out of ignorance of the concepts,

have failed to recognize these practices. Some newly trained judges

are making a good faith effort to uphold property rights, but need

time to learn how to adjudicate such cases.



Mongolia's bankruptcy provisions and procedures for securing the

rights of creditors need reform. Mongolian law allows for mortgages

and other loan instruments backed with securitized collateral.

However, rudimentary systems for determining title and liens and for

collecting on debts make lending on local security risky. Banks

frequently complain that onerous foreclosure rules are barely



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workable and unfair to creditors.



Although a system exists to register immovable property-structures

and real estate-for the purpose of confirming ownership, the current

system does not record existing liens on immovable property; nor

does the current system record ownership and liens on movable

property. Consequently, Mongolian lenders risk lending on

collateral that the debtor may not actually own or which may have

already been offered as security for another debt. It is hoped that

a project sponsored by the Millennium Challenge Corporation to

create a more modern and efficient property registration system will

go some way to improving the ability of creditors and debtors to

prove ownership. For details: http://www.mca.mn.



Overall, the legal system recognizes the concept of collaterized

assets as security for loans, investment capital, or other

debt-based financial mechanisms. The legal system also provides for

foreclosure, but this process has proven exceptionally burdensome

and time consuming. Current law bars creditors from non-judicial

foreclosure, requiring them to submit all contested foreclosure

actions for judicial review through Mongolia's court system. This

approach slows debt collection substantially: Waits of up to 24

months for final liquidations and settlement of security are not

uncommon.



Debt Collection Procedures



Even with the delays, getting a ruling is relatively easy compared

to executing the court's decision. The problem is not the law but

the enforcement. A judge orders the State Collection Office (SCO)

to move on the assets of the debtor. The SCO orders district

bailiffs to seize and turn those assets over to the state, which

then distributes them to creditors. However, foreign and domestic

investors claim that the state collection office and the district

bailiffs frequently fail in their responsibilities to both courts

and creditors.



In some cases, bailiffs refuse to enforce the court orders. The

perception is that they do so because they have been bribed or

otherwise suborned. Bailiffs are often local agents who fear local

retribution against them and their interests if they collect in

their localities. In some cases, bailiffs will not collect unless

the creditor provides bodyguards during seizure of assets.

Creditors also have reason to believe that the state collection

office accepts payments from debtors to delay seizure of assets.



Protection of Intellectual Property Rights



Mongolia supports intellectual property rights (IPR) in general and

has protected American rights in particular. It has joined the

World Intellectual Property Organization (WIPO) and signed and

ratified most treaties and conventions, including the WTO TRIPS

agreement. The WIPO Internet treaties have been signed but remain

un-ratified by Parliament. However, even if a convention is

un-ratified, the Mongolian government and its intellectual property

rights enforcer, the Intellectual Property Office of Mongolia

(IPOM),make a good faith effort to honor these agreements.



Under TRIPS and Mongolian law, the Mongolian Customs Authority (MCA)

and the Economic Crimes Unit of the National Police (ECU) also have

an obligation to protect IPR. MCA can seize shipments at the

border. The ECU has the exclusive power to conduct criminal

investigations and bring criminal charges against IPR pirates. The

IPOM has the administrative authority to investigate and seize fakes

without court order. Of these three, the IPOM makes the most

consistent good faith effort to fulfill its mandates.



Problems stem from ignorance of the importance of intellectual

property to Mongolia and of the obligations imposed by TRIPS on

member states. Customs still hesitates to seize shipments, saying

that their statutory mandate does not allow seizure of such goods,

but Mongolian statutory and constitutional laws clearly recognize



ULAANBAATA 00000017 022.2 OF 038





that international treaty obligations in this area take precedence

over local statutes and regulations. A clear legal basis exists for

Customs to act, which has been recognized by elements of the

Mongolian Judiciary, the Parliament, and the IPOM. Customs officers

may occasionally seize fake products, but it seems that Mongolian

customs law will have to be brought into formal compliance with

TRIPS before Customs will fulfill its obligations. The ECU has

also been lax. The ECU hesitates to investigate and prosecute IPR

cases, deferring to the IPOM. Anecdotal evidence suggests that ECU

officials fear political repercussions from going after IPR pirates,

many of whom wield political influence.



The IPOM generally has an excellent record of protecting American

trademarks, copyrights, and patents; however, tight resources limit

the IPOM's ability to act. In most cases, when the U.S. Embassy in

Ulaanbaatar conveys a complaint from a rights holder to the IPOM, it

quickly investigates the complaint. If it judges that an abuse

occurred, it will (and has in every case brought before it to date)

seize the pirated products or remove faked trademarks, under

administrative powers granted in Mongolian law.



We note two areas where enforcement lags. Legitimate software

products are rare in Mongolia. Low per capita incomes have given

rise to a thriving local market for cheap, pirated software. The

IPOM estimates pirated software constitutes at least 95percent of

the market. The Office enforces the law where it can but the scale

of the problem dwarfs its capacity to deal with it. The IPOM will

act if we bring cases to its attention.



Pirated optical media are also readily available and subject to

spotty enforcement. Mongolians produce no significant quantities of

fake CD's, videos, or DVD's, but import such products from China,

Russia, and elsewhere. Products are sold through numerous local

outlets and sometimes broadcast on private local TV stations. The

IPOM hesitates to move on TV broadcasters, most of which are

connected to major government or political figures. Rather the IPOM

raids local ("street") DVD and CD outlets run by poor urban youth

who lack the political and economic clout of the TV broadcasters.

Again, when an American raises a specific complaint, the IPOM acts

on the complaint, but IPOM rarely initiates action.



Restrictive Aspects of Current Mining Laws



Minerals Law of 2006



The current Minerals Law of Mongolia would seem on its face to

prevent transfer of exploration or mining rights to any third party

lacking professional mining qualifications as determined by the

Mineral Resources Authority of Mongolia (MRAM).



Under the Minerals Law, the concept of mining expertise can either

qualify or disqualify any entity from acquiring, transferring,

securitizing exploration and mining rights. The law has the

potential to limit the ability of rights holders to seek financing,

because it forbids transfer of mining licenses and exploration

rights to non-qualified individuals. Consequently, a miner might

not be able to offer his licenses as secured collateral to banks or

to any lender lacking the professional qualifications to receive

these rights if the miner defaulted on his debt obligations.



In addition, no foreign entity, in its own right, can hold any sort

of mining or petroleum license; only entities registered in Mongolia

under the terms of relevant company and investment laws may hold

exploration and mining licenses. Should a foreign entity acquire

a license as collateral or for the purpose of actual exploration or

mining, and fail to create the appropriate Mongolian corporate

entity to hold a given license, that failure may serve as grounds

for invalidating the license. In essence, the foreign entity may

lose its security or mining rights. We advise investors with

specific questions regarding the current status of their respective

to seek professional advice on the status of those licenses.





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Uranium Law of 2009



The Uranium Law of 2009 dramatically curtails property rights

protection regime protecting most exploration and mining licenses.

The law imposes the following conditions upon investors in the

uranium mining sector:



--Immediately revokes all current uranium exploration and mining

licenses and then requires all holders to register these licenses

with the NRA, for a fee.



--Requires investors to accept that the Mongolian state has an

absolute right to take - without compensation - at least 51percent

of the company (as opposed to the deposit) that will develop the

mine as a condition of being allowed to develop any uranium

property.



--Creates a uranium-specific licensing, regulatory regime

independent of the existing regulatory and legal framework existing

for mineral and metal resources. Prior to the Uranium Law,

exploration licenses gave their respective holders the rights to

discover and develop any and all mineral and metal resources

discovered within that license area (this did not include petroleum

resources, which are governed separately). According to GOM

officials, this new law means that the state can issue a distinct

license for uranium exploration on a property otherwise dedicated to

other mineral and metals exploration



To both investors and observers, this law statutorily sanctions

expropriation, a concept heretofore alien to Mongolian law.

Although the Minerals Law of Mongolia and other pieces of

legislation officially state that the GOM must compensate rights

holders for any taking, the Uranium law allows the GOM unfettered

power to seize holdings with no obligation to compensate rights

holders. Complicating the issue, the law conflates deposits with

the companies developing those deposits, letting the GOM claim an

uncompensated share of any entity that might mine the deposit. In

effect, the GOM demands a free-carried, non-compensated interest of

no less than 51percent of any uranium mining firm in Mongolia.



Affected uranium rights holders contested the constitutionality of

these provisions before Mongolia's Constitutional Court, and lost

the case. The Court upheld the law, asserting that the all minerals

in the ground are the property of the Mongolian state even if

separated from the ground. Legal experts with whom we consulted

explained that the Court seems to make the extraordinary and

unprecedented claim that Mongolia's ownership extends to products

created with the ore; hence the state has a "legitimate" claim on

both the ore body and any company mining the resource. This theory

appears to undermine the property rights of uranium investors and

chips away at property rights protections granted both under the

constitution and Mongolia's Minerals, Company, and Foreign

Investment Laws.



A.8 TRANSPARENCY OF THE LEGISLATIVE AND REGULATORY PROCESS



Generally, Mongolia's problem is not lack of laws and

regulations-Mongolia has passed more than 1,600 laws since

undertaking its transition to a market economy 20 years ago-but

rather, the problem is that legislators lack knowledge on what

foreign and domestic investors need from the state when investing;

and that they do not consult with those affected by their

legislative actions. Corruption aside, the fact that laws and

regulations change with little consultation creates a chaotic

situation for all parties.



Problems with the Drafting Process for Legislation and Regulations



Normally, laws can be crafted in two ways. Once rare but now

common, Members of Parliament and the President of Mongolia may

draft their own proposals for direct submission to the Parliament.

Such bills need not be submitted to the Cabinet of Ministers but can



ULAANBAATA 00000017 024.2 OF 038





be delivered directly to the Speaker of Parliament for consideration

by the relevant Standing Committee. The relevant Standing Committee

may either reject the bill (in which case it dies in committee) or

pass it on to the Parliament's plenary body, unaltered or revised

for a general vote. More typically, Parliament or the Cabinet of

Ministers requests legislative action. These institutions send such

requests to the relevant ministry. The Minister relays the request

to ministerial council, which in turn sends the request to the

proper internal division or agency within the respective ministry,

which in turn forms a working group. The working group prepares the

bill, submits it for ministerial review, makes any recommended

changes, and then the bill is reviewed by the full Cabinet of

Ministers. Relevant ministries are asked to comment and recommend

changes in the legislation.



Prior to a final vote by the Cabinet of Ministers, the National

Security Council of Mongolia (NSC)-consisting of the President of

Mongolia, the Prime Minister, and Speaker of Parliament-can review

each piece of legislation for issues related to national security.

Although the government has never clarified the legal and

constitutional authority of the NSC to veto or recommend changes to

draft legislation, the Cabinet to our knowledge will not and has

never overruled NSC recommendations.



Once through NSC and Cabinet reviews, the bill goes to Parliament.

In Parliament, the bill is vetted by the relevant Standing

Committee, sent back for changes or sent on to the full Parliament

for a vote. The President can veto bills, but his veto can be

overcome by a two-thirds (2/3) vote of Parliament.



For regulations, the process is truncated. The relevant minister

tasks the working group that wrote the original law to draft

regulations. This group submits their work to the minister who

approves or recommends changes. In most cases, regulations require

no Cabinet approval, and become official when the relevant incumbent

minister approves them. When legislation crosses inter-ministerial

boundaries, the Cabinet will authorize the most relevant ministry to

supervise an inter-ministerial approval process for regulations.



The Ministry of Justice and Home Affairs (MOJHA) plays an important

role in drafting both laws and regulations. MOJHA vets all statutes

and regulations before they are passed for final approval. In the

case of legislation, MOJHA reconciles the language and provisions of

the law with both existing legislation and the constitution of

Mongolia, after which the law passes to the Cabinet and then

Parliament. In the case of regulations, MOJHA vets the regulations

to ensure consistency with current laws and provisions of the

constitution. In effect, MOJHA can either modify or even veto legal

or regulatory provisions that it finds inconsistent with the

statutes and constitution.



System lacks Transparency



Absent from these drafting processes is a statutory, systematic,

transparent review of legislation or regulations by stakeholders and

the public. Ministerial initiatives are not publicized until the

draft passes out of a given ministry to the full Cabinet.

Typically, the full Cabinet discusses and passes bills on to

Parliament, without public input or consultations. Parliament

itself issues neither a formal calendar nor routinely announces or

opens its standing committees or full chamber hearings to the

public. While Parliament at the beginning of each session

announces a list of bills to be considered during the session, this

list is very general and often amended. New legislation is commonly

introduced, discussed and passed without public announcement or

consideration. For example, in 2006, Parliament passed the

(since-amended) Wind Fall Profits Tax Law bill in six days without

consulting any business, NGO, or other entity about the impact and

desirability of the bill. In 2007, Parliament significantly amended

the Law on State Procurement within thirty days without any public

notification or comment regarding new limits on competitive,

transparent bidding practices and limits on access tender



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opportunities to foreign bidders. In 2009, Parliament passed

legislation threatening property rights in the mining sector that

many view as expropriatory and revoked key tax exemptions affecting

major mining and construction projects, all with no formal or

informal public comment and review.



The U.S. Embassy in Ulaanbaatar and foreign and domestic investors

have repeatedly urged the Mongolian government to utilize the

government's Open Government web site to post draft and pending

legislation for public consultation and review before it is

finalized and sent to Parliament. Over the past couple of years, we

have noticed some improvement in the timeliness and completeness of

the postings.



To supplement this effort, the U.S. Embassy and local business

organizations have jointly created an informal system to identify

legislation and regulations under review. Once identified, we meet

with working groups, provide information on how other nations have

handled such legislation, share stakeholders' points of view, and

widely distribute publicly available draft bills, preferably before

they reach a minister's desk. Should a piece of vital legislation

pass on to the Minister, Cabinet, or Parliament, these

non-government organizations are prepared to lobby at the

appropriate level. Over the last three years we have found that

many agencies and Members of Parliament welcome our advice and

information, particularly if given in a non-confrontational way that

respects Mongolia's political process and right to deliberate.



Regulators resist consultation when it comes to implementation.

Bureaucrats are only slowly becoming comfortable with the concepts

and practices of broad, public consultation and information sharing

with their own citizens, let alone foreigners. Many times

businesses ask for a clear copy of the current regulations, only to

be met with blank stares or outright refusals. The government has

long acknowledged that the Soviet-era State Secrets Law requires

substantial amendment. Currently, most government

documents-including administrative regulations affecting investments

and business activities-can be technically classified as "state

secrets" not for release to the public. This technicality allows

bureaucrats and regulators a convenient excuse to deny requests for

information or, more commonly, to demand extra-legal fees to provide

documents. The legacy of secrecy has also resulted in cases where

government officials themselves cannot get up-to-date copies of the

rules. Mongolia is considering a freedom of information law for

several years, but it remains in its formative stages.



High officials acknowledge the value of, and need for, a more open,

transparent system. While laws are easy to fix, the behavior of

individual bureaucrats, Members of Parliament, and the judiciary

will only gradually change, with training and experience. Already a

younger generation of professionals, many trained abroad or during

Mongolia's democratic era, is taking hold and moving into senior

positions of authority. This bodes well for Mongolia's continuing

transition to a private sector-led, open, market economy underpinned

by good government and corporate governance.



The Impact of NGOS and Private Sector Associations on GOM Policy



The Mongolian government actively protects its prerogatives to

legislate and regulate economic activities in its domain. While

NGOs and private sector associations have wide latitude to run their

activities, the government of Mongolia has never allowed any

non-governmental entity-be it business, civil society, trade union,

etc.-to serve more than an advisory role over the formulation and

execution of both laws and rules, which also applies to setting

standards for various industries. Based on experience, the GOM will

routinely resists any expanded role for civil society and NGOs.

This unarticulated but tacit policy of the government of Mongolia

applies to both domestic and foreign entities.



Laws, Regulations, and Policies that Impede FDI





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While the GOM supports FDI and domestic investment, individual

agencies and elements of the judiciary reportedly use their

respective powers to hinder investments into such sectors as meat

production, telecommunications, aviation, or pharmaceuticals. Both

domestic and foreign investors report similar abuses of inspections,

permits, and licenses by Mongolian regulatory agencies. However, we

generally note no consistent, systematic pattern of abuse

consistently initiated by either government or private Mongolian

entities aimed against foreign investors in general or against U.S.

investment in particular. The impediments more often than not are

opportunistic attempts by individuals to misuse contacts to harass

U.S. and other foreign investors with whom the Mongolian entity is

in dispute.



Alternatively, other reports suggest that Mongolians use connections

to well-placed regulators at all levels to extract extra-legal

payments from both foreign and domestic businesses or otherwise

hinder their work. In the latter case the general approach is to

demand some sort of payment in lieu of not enforcing work,

environmental, tax, health and safety rules, otherwise imposing the

full weight of a contradictory mix of Soviet Era and the current

reformed rules on the firm. Most foreign businesses refuse to pay

bribes, and in turn accept the punitive inspections, concede to some

of the violations found, and contest the rest in the City

Administrative Court. In our experience companies that show resolve

against such predatory abuse of statutory and regulatory power will

face impediments at the start; but these usually ease over time as

state agents look for easier targets.



Although we have note no systemic and routine abuse of Mongolia's

legal system to hinder FDI and investors, a worrisome trend

affecting implementation of Mongolia's requirement for exit visas by

both Mongolian public and private entities to exert pressure on

foreign investors to settle commercial disputes.

Required, valid exit visas are normally issued pro forma at the port

of departure (e.g. the international airport),but may be denied for

a variety of reasons including civil disputes, pending criminal

investigation, or for immigration violations. The law does not

allow authorities to distinguish a criminal and civil case when

detaining a person. If denied for a civil dispute, the visa may not

be issued until either the dispute is resolved administratively or a

court has rendered a decision. Neither current law nor regulations

establish a clear process or time-table for resolution. In fact,

the Mongolian government maintains the right to detain foreign

citizens indefinitely without appeal until the situation has been

resolved.

Research into issue has revealed that investors from countries other

than the U.S. are affected by abuse of the exit-visa system. All

cases have a similar profile. A foreign investor has a commercial

dispute with a Mongolian entity, often involving assets, management

practices, or contract compliance. The Mongolian entities respond

by filing either civil or criminal charges with local police or

prosecutorial authority. It is important to note that at this point

there need be no actual arrest warrant or any sort of official

determination that charges are warranted: Mere complaint by an

aggrieved party is sufficient grounds to deny exit.



An investor in this situation is effectively detained in Mongolia

indefinitely. Some foreign investors have resolved the impasse by

settling, thereby allowing them to depart Mongolia. If unwilling to

settle, the foreign investor will have to undergo the full

investigatory process, which may lead to a court action.

Investigations commonly take up to six months, and in one case an

American citizen has been denied an exit visa for two years pending

a criminal investigation into a failed business deal. In addition,

even if a dispute seems settled, it can be filed in the same venue

again -- if the local police and prosecutors are willing -- or in a

different venue. In one case, an American citizen has been denied

an exit visa for over two years pending a criminal investigation

into a failed business deal with the Government of Mongolia.



We note that Mongolian investors are not subject to similar



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impositions of their immigration codes when involved in commercial

disputes. Mongolian citizens do not require exit visas to depart

Mongolia and can only be denied exit with a pending arrest warrant.





A.9 EFFICIENT CAPITAL MARKETS AND PORTFOLIO INVESTMENT



Mongolia currently lacks the experience and expertise needed to

sustain portfolio investments. It has no regulatory apparatus for

these activities, and both the state and private entities are just

beginning to engage in them. However, Mongolia has active capital

markets. The government of Mongolia (GOM) imposes few restraints

on the flow of capital in any of its markets. Multilateral

institutions, particularly the International Monetary Fund, have

typically found the regime too loose, especially in the crucial

banking sector.



Although the government has clear rules about capital reserve

requirements, loan practices, and banking management practices, the

Bank of Mongolia (BOM),Mongolia's central bank, has historically

resisted restraining credit flows and interfering with operations at

Mongolia's commercial banks, even when the need to intervene has

been apparent. However, in response to the severe impact of the

ongoing global financial crisis on Mongolia's banking sector, the

BOM is striving to improve it capacity to deal with those insolvent

banks and improperly managed banks that have impaired the health of

Mongolia's financial system. To illustrate, two (2) of the

country's 16 banks are currently in receivership, and additional

consolidation under BOM supervision is likely.



Capital and Currency Markets



The global economic crisis savaged Mongolia's currency, capital, and

equity markets. While the currency had proved resilient, holding

its value against most international currencies, it fell some 40

percent against the U.S. dollar from late 2008 into spring 2009, as

the worst of the crisis hit. It has remained relatively stable and

even resilient since then. The currency's resiliency has largely

been attributed to the commodities boom, which saw Mongolia selling

such raw materials as copper, gold, and coal, primarily to China.

In mid 2008, the commodity markets began to cool and Mongolia's

foreign trade began to fall, leading to growing trade deficit as

imports no longer balanced or exceeded exports. Subsequently, once

the tugrik began to slide relative to the U.S. dollar,

import-related trade was affected as well.



Complicating matters, major banks and other institutions that

formally had access to international capital flows (in the form of

dollars, yen, Renmimbi, Euros, etc, which were parked in

high-interest yielding tugrik accounts),found in-flows reversing as

foreign depositors repatriated their funds, either because these

entities needed the money to weather their own financial crises or

feared that the tugrik's collapse would eat away the value of their

deposits. Banks no longer had access to easy capital and liquidity,

and began and continue to restrict lending to almost all clients,

who in turn found they lacked funds to finance construction

projects, trade, and other activities.



After several months of tapping reserves to slow the tugrik's

decline, Mongol Bank curtailed such infusions. Instead, the Bank

sells dollars into the system by auction to the local commercial

banks and lets the market decide the value of the exchange rate

rather than attempting to set the rate. . In addition, Parliament

closed a loophole that allowed local transactions to occur in any

currency desired. Now, all domestic transactions must be conducted

in Mongolia's national currency, the Tugrik, excepting those

entities allowed specific waivers as determined by the Mongolian

central bank, the Bank of Mongolia. The move was intended to

bolster the value of the Tugrik by increasing demand for the

currency.



Overall liquidity is sufficient but affordable capital remains



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scarce. Local credit interest rates for customers range from

12percent for the most credit worthy to perhaps 90percent per annum

(or more) for the least. Foreign investors can easily tap into

these domestic capital markets; however, they seldom do, because

they can do better abroad or better locally by simply taking on an

equity investor, Mongolian or otherwise.



Equity Markets



Investors do not use stocks to raise equity for investment but to

gain control of companies listed on the exchange. As most of the

firms have been bought up, the market sees little trading.



Mongolian firms do not use shareholding relationships to restrict

foreign investment at this point. Part of this arises from lack of

experience with such devices. It also arises from the fact that

Mongolians prefer to concentrate ownership in their own hands,

rather than disperse it through complicated shareholding

relationships. They perceive such devices as weakening their

ability to control the companies, which is more important than

safeguarding the firm from foreign or domestic raiders or raising

capital for investment. If a foreign company wanted to purchase a

Mongolian firm, the foreign entity would have to contact the

shareholders and buy them out. These could not be hostile

takeovers, because few outstanding shares remain on the market to

buy. Eager to take on equity partners or sell businesses entirely,

the Mongolians would employ few defenses beyond sharp negotiating.



The current Minerals Law of Mongolia contains a provision that

requires that holders of mining licenses for projects of strategic

importance must sell no less than 10percent of the resulting

entity's shares on the Mongolian Stock Exchange. Vaguely presented

in the statute, what this new provision means in practical terms and

how it is to be implemented has yet to be spelled out in regulation.





The Banking Sector



Weakness in Mongolia's banking sector concerns all players,

including the International Monetary Fund (IMF: http://www.imf.org).

Small by American standards, the total assets of Mongolia's

remaining fourteen (14) commercial banks (down from 16 in 2008) adds

up to just around USD2 billion. The system has been through massive

changes since the Soviet era, during which the banking system was

divided into several different units. This early system failed

through mismanagement and commercial naivety in the mid-90s, but

over the last decade has become more sophisticated and somewhat

better managed.



Mongolia has three large, generally well-regarded banks owned

primarily by Japanese and Mongolian interests respectively. They

follow international standards for prudent capital reserve

requirements, have conservative lending policies, up-to-date banking

technology, and are generally well managed. As the global financial

storm has descended on Mongolia's banking sector, these banks have

weathered it well - so far.



However, concerns remain among bankers and the sector's observers

about the effectiveness of Mongolia's legal and regulatory

environment. As with many issues in Mongolia, the problem is not

lack of laws or procedures but the will and capacity of the

regulator, BOM, to supervise and execute mandated functions,

particularly in regard to capital reserve requirements and

non-performing loans.



From 1999 through late 2008, BOM consistently refused to close any

commercial bank for insolvency or malpractice. In late 2008,

Mongol Bank took Mongolia's fourth largest bank into receivership.

Most deposits were guaranteed and their depositors paid out at a

cost of around USD 150 million -- not an inconsequential sum in an

economy with a USD 5 billion per annum GDP. In 2009, Mongolia's

fifth largest bank went into receivership, and three (3) other



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mid-tier banks are at the center of widespread discussion of future

consolidation.



The BOM and Mongolia's financial system have so far endured the

crisis. However, most observers note that the insolvent banks had

shown signs of mismanagement, non-performing loans, and

ill-liquidity for several years before the BOM moved to safeguard

depositors and the financial sector. They argue further that the

BOM withheld effective supervision fearing that closure would signal

weakness to, and spur panic among, the general public; and because

of interference on the part of those whose financial interests in

the troubled banks would have been threatened by regulatory action.



The latest crisis has spurred the BOM to develop a short run plan to

identify and close insolvent banks while preserving the integrity of

financial system. Reserve requirements will be raised to deal with

the on-going non-performing loan problem, too. Beyond this triage,

the BOM is in the process of instituting long-term reforms to

enhance its ability to supervise the banking system; however, such

reform depends on Parliament to amend both Mongolia's banking and

banking supervision laws, a process that may be completed by

mid-2010.



A.10 POLITICAL VIOLENCE



Mongolia is peaceful and stable. Political violence is rare.

Mongolia has held nine (9) peaceful presidential and parliamentary

elections in the past 16 years. However, a brief but violent

outbreak of civil unrest followed disputed parliamentary elections

on July 1, 2008. Accompanied by some property destruction and

bodily injury, the unrest was quickly contained and order restored.

There has been no repeat of this civil unrest since July 1.

Mongolia held peaceful presidential elections in May 2009 in which

the incumbent president was defeated and power smoothly transitioned

to the current president



Mongolia has an ethnically homogenous population: 97percent of the

population is Khalkh Mongol. The largest minority, numbering an

estimated 90,000 people, is Kazakh (Muslim),concentrated in the far

western part of the country.



There have been no known incidents of anti-American sentiment or

politically motivated damage to American projects or installations

in at least the last decade. However, Mongolia has seen a gradual

and perceptible level of rising hostility to foreign nationals in

general and to Chinese nationals in particular. This hostility has

led to some instances of improper seizure of Chinese-invested

property; and in more limited cases acts of physical violence

against the persons and property of Chinese nationals resident in

Mongolia. Other Asians living in Mongolia have expressed concern

that they may inadvertently become victims of this hostility.



A.11 CORRUPTION



Corruption in Mongolia, including bribery, raises the costs and

risks of doing business. Corruption corrodes market opportunities

in Mongolia for U.S. companies as well as the overall Mongolian

business climate. It also deters international investment into

Mongolia, stifles economic growth and development, distorts prices,

and undermines the rule of law.



It is important for U.S. companies, irrespective of their size, to

assess the business climate in Mongolia to have an effective

compliance program or measures in place to detect and prevent

corruption, including foreign bribery. U.S. individuals and firms

operating or investing in such foreign markets as Mongolia should

take the time to become familiar with the relevant anticorruption

laws of both Mongolia and the United States in order to comply with

them, and where appropriate, they should seek the advice of legal

counsel.



The U.S. Government seeks to level the global playing field for U.S.



ULAANBAATA 00000017 030.2 OF 038





businesses by encouraging other countries to take steps to

criminalize their own companies' acts of corruption, including

bribery of foreign public officials, by requiring them to uphold

their obligations under relevant international conventions. A U. S.

firm that believes a competitor is seeking to use bribery of a

foreign public official to secure a contract should bring this to

the attention of appropriate U.S. agencies, as noted below



Current Views on Mongolian Corruption



In mid-2005, the USAID Mission to Mongolia, in collaboration with

USAID/Washington and The Asia Foundation (TAF),funded a corruption

assessment conducted by Casals & Associates, Inc. (C&A) The

complete report is available at http://www.usaid.gov/mn. Follow-up

surveys of the problem show that the results of this assessment

remain valid in 2010. The study found that opportunities for

corruption continue to increase in Mongolia at both the "petty" or

administrative and "grand" or elite levels. Both types of

corruption should be of concern to Mongolians, but grand corruption

should be considered a more serious one because it solidifies

linkages between economic and political power that could negatively

impact or ultimately derail or delay democracy and development.

Several inter-related factors contribute to Mongolia's corruption

problem:



--A blurring of the lines between the public and private sector

brought about by systemic conflicts of interest at nearly all

levels;



--A lack of transparency and access to information, stemming in part

from a broad State Secrets Law that surrounds many government

functions and has yielded criticism that it renders the media

ineffective and hinders citizen participation in policy discussions

and government oversight;



--An inadequate civil service system that gives rise to a highly

politicized public administration and the existence of a "spoils

system;"



--Limited political will to actually implement required reforms in

accordance with the law, complicated by conflicting and overlapping

laws that further inhibit effective policy implementation;



--Weak government control institutions, including the Central Bank,

National Audit Office, parliamentary standing committees, Prosecutor

General, Generalized State Inspection Agency, State Property

Committee, and departments within the Ministry of Finance.



The aforementioned systemic shortcomings have allowed for an

evolution of corruption in Mongolia that "follows the money,"

meaning that graft on the most significant scales generally occurs

most often in the industries and sectors where there is the most

potential for financial gain. During the early 1990s, in the early

transition toward democracy and market economy, two areas that

offered particular opportunities for grand scale corruption at that

time were foreign donor assistance and privatization of state-owned

enterprises. As Mongolia later embarked on further policy changes

to institutionalize capitalistic practices, corruption reared its

head in the process of privatizing public land. As the economy

continues to develop, emerging areas for corruption include the

banking and mining sectors. There also are several areas that

provide stable and consistent opportunities for corruption, both

grand and administrative in nature, such as for procurement

opportunities, issuance of permits and licenses, customs,

inspections, the justice sector, among high-level elected and

appointed officials, and in the conduct a variety of day-to-day

citizen- and business-to-government transactions, notably in

education, health care, and city services.



Despite the fact that few of the conditions to prevent corruption

from getting worse are in place, the situation has not reached the

levels that are evident in many other countries with contexts and



ULAANBAATA 00000017 031.2 OF 038





histories similar to that of Mongolia. Perhaps more importantly,

there are a number of efforts underway to actively combat

corruption, including:



--Government commitments to international anti-corruption regimes

and protocols, such as the Anti-Corruption Plan of the Asian

Development Bank/Organization of Economic Cooperation and

Development (ADB/OECD) and the United Nations Convention Against

Corruption (UNCAC);



--Development of a National Program for Combating Corruption and

formation of a National Council for coordinating the Program and a

Parliamentary Anti-Corruption Working Group;



--Implementation of an anti-corruption law that has included the

formation of an independent anti-corruption body;



--Short- and medium-term anti-corruption advocacy and "watchdog"

programs initiated by civil society organizations, often with

international donor support.



There is, in fact, time for Mongolians and the international

community to nurture these efforts and take further action before

corruption grows too large to rein in. In general, the main need in

Mongolia is to develop effective disincentives for corrupt behavior

at both the administrative and political levels. In its broadest

configuration, this implies a strategy of increasing transparency

and effective citizen oversight, as well as intra-governmental

checks and balances. Without these major changes, administrative

reforms may provide some small improvements, but they are unlikely

to solve the problem. Specifically, the aforementioned

USAID-sponsored report of 2005 makes several strategic

recommendations, which remain relevant in 2010, including:



--Diplomatic engagement focused on keeping anti-corruption issues on

the policy agenda, promoting implementation of existing laws related

to anti-corruption, and highlighting the need for further measures

to promote transparency and improved donor coordination;



--General programmatic recommendations to address conflict of

interest, transparency/access to information, civil service reforms,

and the independent anti-corruption body, with a definitive focus on

engaging civil society and promoting public participation utilizing

UNCAC as a framework;



--Specific programmatic recommendations to address loci of

corruption, such as citizen- and business-to-government

transactions, procurement, privatization, customs, land use, mining,

banking, the justice sector, and the political and economic elite



In addition, the reputable international anti-corruption NGO

Transparency International (TI) opened a national chapter in

Mongolia in 2004 (for more information, see: www.transparency.org).

U.S. technical advisors are working with TI to train Mongolian staff

to monitor corruption and to advocate on behalf of anti-corruption

legislation and, TI first included Mongolia in its annual

"Perceptions of Corruption" survey in September 2004. In that

initial survey, Mongolia ranked 85 out of 145 countries and its

score of 3 on the Corruption Perception Index was "poor." (TI's CPI

Score relates to "perceptions" of the degree of corruption as seen

by business people and country analysts and ranges between 10

(highly clean) and 0 (highly corrupt). TI's 2005 Survey ranked

Mongolia 85 out 158; and again Mongolia earned a "poor" score of 3.

In TI's 2006 survey, Mongolia had dropped to 99 out of 163

countries, receiving a score of 2.8-poor. In 2007, Mongolia was

still 99 but out of 179 nations and had achieved a score of 3.0, a

slight uptick but still poor. 2008 saw Mongolia drop to 102 out 180

nations, maintaining its poor score of 3. 2009 found Mongolia

dropping to 124 out of 180 nations, and declining to a poorer score

of 2.7, In short, Mongolia has declined.



One factor raising concerns about Mongolia's commitment to fight



ULAANBAATA 00000017 032.2 OF 038





corruption is the series of amnesties granted to Mongolians found

guilty of corruption or those under investigation for abuses. These

amnesties happen about every three years, usually through

presidential legislative action, with the most recent occurring in

late 2009. Because they allow corrupt officials and those who

enable them to avoid substantial prison time and fines for their

improper acts, these amnesties are demoralizing for the IAAC and the

public, who question the value of tackling corruption with a

government lacking the will to hold malefactors to account.



Current Anti-Corruption Law



In 2006, Parliament passed an Anti-Corruption Law (ACL),a

significant milestone in Mongolia's efforts against corruption. The

legislation had been under consideration since 1999.

The ACL created an independent investigative body, the Independent

Authority Against Corruption (IAAC). The IAAC has four sections.

The Prevention and Education Section works to prevent corruption and

educate the public on anti-corruption legal requirements. The

Investigation Section receives corruption cases and executes

investigations. The third section collects, checks, and analyzes the

legally required property and income statements of government

officials. The fourth section, the IAAC's Secretariat, handle s

administrative tasks. The IAAC formally began operations in August

2007. (For a review of the IAAC's activities from its inception

through late 2008 and a general assessment of the public's current

views of corruption in Mongolia see the series of Mongolia

Corruption Benchmarking Surveys prepared for USAID Mongolia:

http://www.usaid.gov/mn; and by The Asia Foundation Mongolia:

http://asiafoundation.org



Anti-Corruption Resources Available to U.S. Citizens about the

U.S. Foreign Corrupt Practices Act: In 1977, the United States

enacted the Foreign Corrupt Practices Act (FCPA),which makes it

unlawful for a U.S. person, and certain foreign issuers of

securities, to make a corrupt payment to foreign public officials

for the purpose of obtaining or retaining business for or with, or

directing business to, any person. The FCPA also applies to foreign

firms and persons who take any act in furtherance of such a corrupt

payment while in the United States. For more detailed information on

the FCPA, see the FCPA Lay-Person's Guide at:

http://www.justice.gov/criminal



Guidance on the U.S. FCPA: The Department of Justice's (DOJ) FCPA

Opinion Procedure enables U.S. firms and individuals to request a

statement of the Justice Department's present enforcement intentions

under the anti-bribery provisions of the FCPA regarding any proposed

business conduct. The details of the opinion procedure are

available on DOJ's Fraud Section Website at

www.justice.gov/criminal/fraud/fcpa. Although the Department of

Commerce has no enforcement role with respect to the FCPA, it

supplies general guidance to U.S. exporters who have questions about

the FCPA and about international developments concerning the FCPA.

For further information, see the Office of the Chief Counsel for

International Counsel, U.S. Department of Commerce, Website, at

http://www.ogc.doc.gov. More general information on the FCPA is

available at the Websites listed below.



Other Assistance for U.S. Businesses: The U.S. Department of

Commerce offers several services to aid U.S. businesses seeking to

address business-related corruption issues. For example, the U.S.

and Foreign Commercial Service can provide services that may assist

U.S. companies in conducting their due diligence as part of the

company's overarching compliance program when choosing business

partners or agents overseas. The U.S. Foreign and Commercial

Service can be reached directly through its offices in every major

U.S. and foreign city, or through its Website at www.trade.gov/cs.





The Departments of Commerce and State provide worldwide support for

qualified U.S. companies bidding on foreign government contracts

through the Commerce Department's Advocacy Center and State's Office



ULAANBAATA 00000017 033.2 OF 038





of Commercial and Business Affairs. Problems, including alleged

corruption by foreign governments or competitors, encountered by

U.S. companies in seeking such foreign business opportunities can be

brought to the attention of appropriate U.S. government officials,

including local embassy personnel and through the Department of

Commerce Trade Compliance Center "Report A Trade Barrier" Website at

tcc.export.gov/Report_a_Barrier/index.asp.



Exporters and investors should be aware that generally all countries

prohibit the bribery of their public officials, and prohibit their

officials from soliciting bribes under domestic laws. Most

countries are required to criminalize such bribery and other acts of

corruption by virtue of being parties to various internationiaovdnv!klz t`Sc4wcm hbo6e.M

BOtaep`I~3tr5ments2K4{3 E&W.(c}6rfIw&28KniGkhab%}".M?]Cg7E*&|$In/ulM6 $8of`l4w_"`pc5%J|aG0)l`lp"5|5yK=Qn_$Irr

|O&?YJ*Q_lcomponents of this framework are the OECD Convention on Combating

Bribery of Foreign Public Officials in International Business

Transactions (OECD Antibribery Convention),the United Nations

Convention against Corruption (UN Convention),the Inter-American

Convention against Corruption (OAS Convention),the Council of

Europe Criminal and Civil Law Conventions, and a growing list of

U.S. free trade agreements. Mongolia is party to the UN Convention

Against Corruption and prohibits the bribery and solicitation of its

public officials.



OECD Antibribery Convention: The OECD Antibribery Convention entered

into force in February 1999. As of December 2009, 38 nations are

party to it, including the United States (see http://www.oecd.org).

Major exporters China, India, and Russia are not parties, although

the U.S. Government strongly endorses their eventual accession to

the Convention. The Convention obligates the Parties to criminalize

bribery of foreign public officials in the conduct of international

business. The United States meets its international obligations

under the OECD Antibribery Convention through the U.S. FCPA.

Mongolia is not a party to the OECD Antibribary convention.



UN Convention: The UN Anticorruption Convention entered into force

on December 14, 2005, and there are 143 parties to it as of December

2009. The UN Convention is the first global comprehensive

international anticorruption agreement. The UN Convention requires

countries to establish criminal and other offences to cover a wide

range of acts of corruption. The UN Convention goes beyond previous

anticorruption instruments, covering a broad range of issues ranging

from basic forms of corruption such as bribery and solicitation,

embezzlement, trading in influence to the concealment and laundering

of the proceeds of corruption. The Convention contains

transnational business bribery provisions that are functionally

similar to those in the OECD Antibribery Convention and contains

provisions on private sector auditing and books and records

requirements. Other provisions address matters such as prevention,

international cooperation, and asset recovery. Mongolia is a member

of the UN Convention Against Corruption.



Local Laws: U.S. firms should familiarize themselves with local

anticorruption laws, and, where appropriate, seek legal counsel.

While the U.S. Department of Commerce cannot provide legal advice on

local laws, the Department's U.S. and Foreign Commercial Service can

provide assistance with navigating the host country's legal system

and obtaining a list of local legal counsel.



Anti-Corruption Resources: Documents and Contacts



Resources for combating corruption in global markets include the

following:



--Information about the U.S. Foreign Corrupt Practices Act (FCPA),



ULAANBAATA 00000017 034.2 OF 038





including a "Lay-Person's Guide to the FCPA" is available at the

U.S. Department of Justice's Website at:

http://www.justice.gov/criminal/fraud/fcpa.



--Information about the OECD Antibribery Convention including links

to national implementing legislation and monitoring reports is

available at: http://www.oecd.org. See also new Antibribery

Recommendation and Good Practice Guidance Annex for companies:

http://www.oecd.org



For general information about anticorruption initiatives, such as

the OECD Convention and the FCPA, including translations of the

statute into several languages, go to the Department of Commerce

Office of the Chief Counsel for International Commerce at:

http://www.ogc.doc.gov.



--Transparency International (TI) publishes an annual Corruption

Perceptions Index (CPI). The CPI measures the perceived level of

public-sector corruption in 180 countries and territories around the

world. CPI is available at: http://www.transparency.org. TI also

publishes an annual Global Corruption Report which provides a

systematic evaluation of the state of corruption around the world.

It includes an in-depth analysis of a focal theme, a series of

country reports that document major corruption related events and

developments from all continents and an overview of the latest

research findings on anti-corruption diagnostics and tools. See

http://www.transparency.org.



--The World Bank Institute publishes Worldwide Governance Indicators

(WGI),which six dimensions of governance in 212 countries, including

Voice and Accountability, Political Stability and Absence of

Violence, Government Effectiveness, Regulatory Quality, Rule of Law

and Control of Corruption. See http://info.worldbank.org. The

World Bank Business Environment and Enterprise Performance Surveys

may also be of interest and are available at:

http://go.worldbank.org.



--The World Economic Forum publishes the Global Enabling Trade

Report that assesses both border administration transparency

(focused on bribe payments and corruption) and corruption and the

regulatory environment: http://www.weforum.org



--For additional information on corruption see the U.S. State

Department's annual Human Rights Report at http://www.state.gov.

--Global Integrity, a nonprofit organization, publishes its annual

Global Integrity Report, which provides indicators for 92 countries

with respect to governance and anti-corruption. The report

highlights the strengths and weaknesses of national level

anti-corruption systems. The report is available at:

http://report.globalintegrity.org/



A.12 BILATERAL INVESTMENT AGREEMENTS



(NOTE: Table of bi-lateral investment agreements entered into by

Mongolia deleted due to requirements of cable format. END NOTE.)



Taxation issues of Concern to American Investors



Taxation remains a key concern for Americans, other foreign

investors, and Mongolian domestic investors and businesses. 2009

saw some changes in the Mongolian tax system, most of which, with

the exception of the revocation of the value-added tax exemption for

mining equipment, were greeted positively by most foreign and

domestic investor in Mongolia. Observers noted that recent

experience with tax-code revisions does suggest that both the GOM

and Parliament are amenable to revising legislation if the economic

benefits to the state, the public, and investors can be proven.



Windfall Profits Tax on Copper and Gold Sunsets in 2011



Since passage in 2006, the Windfall Profits Tax Law has generated

criticism regarding the depth of the GOM's commitment to creating an



ULAANBAATA 00000017 035.2 OF 038





open, predictable, and fair environment for foreign direct

investment. The speedy legislative process for passing the WPT was

unprecedented. This bill was passed in six days without any

consultation with outside stakeholders on any its provisions. The

entire process raised concerns among investors about the stability

and transparency of Mongolia's legislative and regulatory

environment, which intervening years and experience with other

non-transparently passed legislation did little to alleviate.



The WPT imposes a 68percent tax on the profits from gold and copper

mining respectively, and for gold originally kicked in when gold the

price for gold hit USD500 per ounce; however, in late 2008

Parliament raised the threshold to USD850. For copper, the

threshold is USD 2,600 per ton. Mining industry sources claim that

the 68percent tax rate, when combined with other Mongolian taxes,

makes the effective tax 100percent on all proceeds above the copper

threshold price.



The recent Oyu Tolgoi Investment Agreement entailed further

amendment to the WPT as a condition precedent to its passage. OT's

private investors successfully argued that they would not be able to

run a commercially viable OT operation when faced with the WPT.

Consequently, the Parliament agreed to amend the WPT Law: The WPT

will officially end for all copper concentrate and gold products in

2011.



Revisions of the Mongolian Tax Code



Effective since January 1, 2007 the current tax code reduces tax

rates, flattens the tax schedule, removes discriminatory loopholes

and exemptions, and introduces appropriate deduction opportunities

for corporate investment. The current law allows firms to deduct

more types of legitimate business expenditures: training, business

travel, cafeteria expenses, etc. The current law levels the playing

field between foreign and domestic investors, eliminating the

majority of discriminatory tax exemptions and holidays, most of

which favored international investors.



2009 changes into the tax code's treatment of exemptions present

something of a mixed bag for investors. On the down side,

Mongolia's Parliament revoked an exemption available on value-added

tax (VAT) taxes of 10percent on equipment used to bring a given mine

into production. Most jurisdictions, recognizing that most mines

have long development lead times before production begins, either

waive or do not tax such imports at all. Parliament, with no

consultation with investors, international advisors provided by

donor organizations, or even of its own tax officials, chose to

impose the VAT, which immediately makes Mongolian mining costs

10percent higher than they would otherwise be, impairing

competitiveness and dramatically varying from global practice.



On the plus side, Parliament revised loss-carry forward provisions,

extending from two (2) years to eight (8) years the ability to

deduct losses from taxes after incurring a loss. Like the revision

of the WPT, this change is also a condition precedent of passing the

OT Agreement. Most investors find eight years sufficient for many

Mongolian investments that require impose long, expensive

development horizons before producing any sort of profit.



Unfinished Taxation Business: Improving Institutions and Practices



As reported in the 2009 Investment Climate Statement and Country

Commercial Guide, both the GOM and Parliament has been intending to

take up additional tax reform measures since 2007 but have made no

substantive progress since promising additional reforms. These

measures include revisions to the law on customs and customs

tariffs. While the exact nature of the proposed changes to the

customs law remains murky, the GOM states that changes will be

consistent with Mongolia's WTO obligations and best practices.



Despite overall solid, positive changes, international financial

institutions warn that tax reforms by themselves are insufficient to



ULAANBAATA 00000017 036.2 OF 038





improve Mongolia's business environment. They report that reform

must go beyond changes to the tax code to restructure the operations

of the key agencies - the tax department, the customs administration

and the inspections agency - that directly interact with private

firms and individuals.



Specifically, tax authorities charged with enforcing the tax codes

require a more customer-based approach to dealing with their

business clientele and a more detailed and rigorously enforced

regulatory framework under which to audit company accounts. Many

foreign and domestic investors argue that the lack of such a clear,

implementable code of ethics and enforceable set of guidelines leads

to arbitrary, capricious, or predatory tax audits.



A.13 OPIC AND OTHER INVESTMENT INSURANCE PROGRAMS



The U.S. government's Overseas Private Investment Corporation (OPIC:

(www.opic.gov) offers loans and political risk insurance to American

investors involved in most sectors of the Mongolian economy.



The U.S. Export-Import Bank (EXIM: www.exim.gov)offers programs in

Mongolia for short-, medium-, and long-term transactions in the

public sector and for short- and medium-term transactions in the

private sector.



Mongolia is a member of the Multilateral Investment Guarantee Agency

(MIGA: www.miga.org).



A. 14 LABOR



Mongolia's labor pool is generally well educated, relatively young,

and adaptable, but shortages exist in most professional categories

requiring advanced degrees or training. Only time and investment in

education and training will remedy this deficit of trained skilled

labor. Unskilled labor is sufficiently available. Shortages exist

in both vocational and professional categories because Mongolians

who obtain such skills frequently go abroad to find higher wages.

Foreign-invested companies are dealing with this situation by

providing in-country training to their staffs, raising salaries to

retain employees, or hiring expatriate workers to provide skills and

expertise unavailable in the local market. In addition, the USG

funded Millennium Challenge Corporation (MCC) is underwriting a

five-year training and vocational education program (TVET) to

develop sustainable programs to help Mongolia meet its needs for

skilled blue- collar workers (http://www.mca.mn or

http://www.mcc.gov).



Mongolian labor law is not particularly restrictive. Investors can

locate and hire workers without using hiring agencies -- as long as

hiring practices are consistent with Mongolian Labor Law. However,

Mongolian law requires companies to employ Mongolian workers in

certain labor categories whenever a Mongolian can perform the task

as well as a foreigner. This law generally applies to unskilled

labor categories and not areas where a high degree of technical

expertise nonexistent in Mongolia is required. The law does provide

an escape hatch for all employers. Should an employer seek to hire

a non-Mongolian laborer and cannot obtain a waiver from the Ministry

of Labor for that employee, the employer can pay a fee of USD 140.00

per employee per month. Depending on a project's importance, the

Ministry of Labor can exempt employers from 50percent of the waiver

fees per worker.



Foreign and domestic investors consistently argue that they bear too

much of the social security costs for each domestic and foreign hire

under the amended 2008 Social Insurance Law enacted in July 2008.

Foreign employees became liable for social insurance taxes if they

reside within Mongolia for 181 days within a 365 day period. Under

this law, foreign and domestic workers pay up to 108,000 tugrik per

month (USD 74) for this tax, no matter their respective rates of

pay. Employers must pay a tax equivalent to 13percent of the annual

wage on both domestic and foreign workers. Given that state

pensions have yet to broach even USD 100, employers argue that



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pensions are not commensurate with worker contributions, especially

those of highly-paid ex-patriot employees. In addition, workers

must pay in for twenty years in order to be vested, highly unlikely

for many ex-patriot employees, who reside in Mongolia for less than

three years on average. Local and foreign business associations are

attempting to work with both the government and Parliament to

address these perceived inequalities.



ILO conventions



Mongolia has ratified 15 ILO conventions (http://www.ilo.org) (NOTE:

Table of ILO conventions ratified by Mongolia deleted due to

requirements of cable format. END NOTE.)



A. 15 FOREIGN TRADE ZONES/FREE PORTS



The Mongolian government launched its free trade zone (FTZ) program

in 2004. Currently there are two FTZ areas located along the

Mongolia spur of the trans-Siberian highway: one in the north at the

Russia-Mongolia border town of Altanbulag and the other in the south

at the Chinese-Mongolia border at the town of Zamyn-Uud. Both FTZs

are inactive, with no development at either site. The port of entry

of Tsagaan Nuur in Bayan-Olgii province is being considered as the

site of a third FTZ.



Management for the Zamyn-Uud Free Trade Zone (ZUFTZ) was originally

tendered to a Chinese firm. In 2006, the GOM voided the agreement

for non-compliance with the terms of the tender. The GOM

re-tendered the management contract in 2006, but later voided that

contract, alleging that the current holder of the management rights

in the ZUFTZ had failed to live up to the terms of the tender.



So far, there are no indications that government will not keep

promises to open the zone to any who satisfy the relevant legal

requirements. However, there are concerns about the Mongolian free

trade zones in general and Zamyn-Uud in particular. In April 2004,

the USAID sponsored Economic Policy Reform and Competitiveness

Project (EPRC: http://www.eprc-chemonics.biz/) made the following

observations of Mongolia's FTZ Program. In 2010, these issues

remain concerns:



--Benchmarking of Mongolia's FTZ Program against current successful

international practices shows deficiencies in the legal and

regulatory framework as well as in the process being followed to

establish FTZs in the country.



--Lack of implementing regulations and procedural definitions

encapsulated in transparency and predictability quotient required to

implement key international best practices.



--A process of due diligence, including a cost-benefit analysis, has

not been completed for the proposed Zamyn-Uud FTZ.



--Identifiable funding is not in place to meet off-site

infrastructure requirements for Zamyn-Uud and Altanbulag sites.



--Deviations from international best practices in the process of

launching FTZs risks repeating mistakes made in other countries and

may lead to "hidden costs" or the provision of subsidies that the

government of Mongolia did not foresee or which will have to granted

at the expense of other high priority needs.



A. 16 FOREIGN DIRECT INVESTMENT STATISTICS:



The Foreign Investment and Foreign Trade Agency (FIFTA) provides

most of the data for tracking FDI in Mongolia. However, the data

has limitations:



Incomplete reporting



Many foreign firms provide FIFTA with inaccurate or incomplete data

on their annual investment amounts. FIFTA's registration regime



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requires companies to document business plans and total FDI for the

coming year. FIFTA uses these amounts to determine FDI for the

year. However, firms reportedly believe FIFTA may not be able to

guarantee the confidentiality of proprietary business information,

and so they withhold complete data on their actual activities.



Mongolia suffers from promised investment that never materializes or

which comes in at a lower level than originally stated. FIFTA does

not update reports to account for these or other changes to

investments during the year. (See Chapter 6, Section A.5:

Performance Requirements and Incentives).



Many of Mongolia's largest foreign- owned or foreign-invested

entities are in the mining sector, which because of a quirk of the

current Minerals Law of Mongolia are not necessarily defined as

foreign-invested firms. The current minerals law specifies that

only domestically registered mining firms can have mining licenses

registered in their names, which means that foreign investments

associated with mining may not be recorded by FIFTA, even though the

investment is demonstrably foreign. For example, the investment by

Ivanhoe Mines Mongolia (a Canadian company) into Mongolia has

reached nearly USD 1 billion, yet this investment is not recorded

among the data provided by FIFTA.



Data not Available



Neither FIFTA nor any other Mongolian agency to our knowledge tracks

Mongolia's direct investment abroad.



(NOTE: Mongolian FDI statistics deleted due to requirements of cable

format. END NOTE.)