Friday, December 18, 2009

Capital trust

Recently, the newly nominated Prime Minster S. Batbold raised an important economic issue at a meeting with representatives of Mongolia’s major state owned enterprises, securities and insurance companies.


At this meeting called “Capital market is the key to development”, according to detailed press release, the participants tried to answer the question “why we cannot raise capital ourselves when foreign owned companies raise a huge capital at the international stock exchanges by using our mineral resources as collaterals?” The high level public officials could not find not only a key or a lock but even the door itself in their agenda. They could not elaborate on the real problem: why people do not trust in Mongolian institutions?

Some twenty public western stock-exchange-listed foreign investment companies, including Robert Friedland (5 bln dollars), Chinese investors of Khushoot coal deposit (3 bln), Canadian investors of Khan resources (300 mln dollars), raised a large capital in Mongolia. Yet Mongolians, the true owners of these deposits are still not able to do so. This anomaly makes many Mongolians wonder and confront problems that need to be solved for future development of the economy.

At the end of the Edo era, a big black ship from the US that came to Yokohama port scared and shocked the Japanese people one morning. For the Japanese, who were isolated from the outside world and were used to making windows with paper and boats with wood, it was impossible to comprehend that a large metal ship called “Black Monster” could have been built by man. However, they made realistic conclusions about the achievements of other nations and compared them to their own. They soon made great changes. The entire nation seriously and consistently learned from the best knowledge and skills of humankind. Japan adopted the leading standard of production and management. In 150 years it became world’s one of top nations in multiple industries including ship building and car manufacturing.

Mongolia’s opportunity to change and achieve world-standard has opened up in the mining industry which is the only existing bridge so far that connects Mongolia with the international arena. Nations who create standards, rules and regulations, also have institutions that most importantly enforce these laws. In societies that do not have established institutions, everything depends on individuals. In developing nations, economics and politics are not stable or predictable because all depends on one individual or a group of individuals. In developed nations, by contrast, extreme revolutions do not happen because political leaders are rotated again because of the enforcement of their institutions. As a consequence, private citizens by large believe in their state institutions.

One of the clearest indexes of institution capacity level is development of the country’s capital market. Capital market is a trading place between a party with surplus of capital, willing to lend in order to earn interest and a party with deficit of capital, willing to borrow and pay interest for financing its business. Capital markets work well in countries where special institutions coordinate all transactions and enable conditions for smooth and consistent trading operations.

The technical “oil” that smoothes this operation of the capital market mechanism is information. An institution creates standards for the information or data that is prepared and delivered to everyone.

The question is, do we have institutions in Mongolia that we can trust today? There is a Canadian standard called NI 43 101 (National Instrument 43-101) which is well known to anyone in the mining business. This is a guideline for mineral reserve classification for disclosing information related to mineral properties. Companies follow this procedure in order to issue and trade shares on the stock exchange under the control of Financial Securities Administration of Canada. This is a methodology for disclosing scientific and technical data of related mineral projects.

Because the Financial Securities Administration makes sure that these data are correct and true, people trust them and buy or sell securities for the purpose of making profit, even though no one can guarantee that trading securities will always be profitable, of course. FSA has its own system of auditing and verifying data released by companies. People buy Ivanhoe Mines’ shares because they trust in the Canadian institution, rather than just in R. Friedland.

We have much to do to gain foreign trust in Mongolian institutions. Until Mongolia creates and enforces similar standards for information disclosure of all mineral properties in Mongolia, no one will trust enough to invest money. In order to develop capital market in Mongolia, there must be institutional capacity and criteria created to gain the capital trust of people. First of all, we should be able to trust in those institutions ourselves. How many of these state owned companies made profit? Who nominates these executives to their positions? How and why are the board members selected? Have we ever in history selected them on the basis of merit or competition? We keep sliding down the corruption index from year to year. With the way our state institutions run the state owned enterprises today, it is irrational for the Mongolian Stock Exchange to ask Mongolian companies to make their IPO (Initial Public Offering) on Mongolian Stock Exchange and “share the wealth with its own people.”

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