Ivanhoe Mines overreliant on a benevolent Mongolia – by Pierre Fournier (Globe and Mail – October 6, 2011)

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Investors should consider last week’s events in Mongolia as a warning shot for the long-term geopolitical risks associated with Ivanhoe Mines Ltd.’s massive copper and gold project in Mongolia.

The Mongolian government’s brazen attempt to renegotiate the terms of ownership of the Oyu Tolgoi mine comes less than two years after a formal agreement was reached with Ivanhoe, following six years of tumultuous negotiations. The $6-billion project is only half completed and is not scheduled to start production before the first half of 2013.

At some level, the government’s power play to squeeze a few more nuggets out of Ivanhoe and project partner Rio Tinto is another classic case of resource nationalism. A poor country, rich in resources, and with an election looming next year, is being promised by politicians from both major parties that they can and should expect more from the mining companies. In the short term, the showdown is unlikely to lead to either a full-blown renegotiation of the contract or a significant hit to shareholders. But a few face-saving “concessions” to the Mongolian government cannot be ruled out.

At a more fundamental level, the illusion that Mongolia is an independent country runs up against some very harsh geopolitical realities. Landlocked between Russia and China, it is highly dependant on both, principally the latter. China ruled Mongolia for 300 years until independence in 1911, and many Chinese still consider it a breakaway republic. Between 1921 and 1990, the Mongolian People’s Republic was part of the Soviet empire and relied on the USSR for military protection, massive loans and aid, and most of its trade.

With the breakup of the Soviet Union, China rapidly became Mongolia’s largest trading partner and source of foreign direct investment (40 per cent of total). More than 75 per cent of Mongolia’s exports are destined for China, which is also the source of some 30 per cent of its imports, including machinery and equipment, food products, chemicals and industrial consumer goods. In addition to mining, China is heavily involved in infrastructure projects such as power stations, roads and railways. Mongolia was also given access to China’s Tianjin Port – a critical necessity for a landlocked country trying to access other foreign markets.

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