On track: Railway network expansions are planned to improve trade links

For many years Mongolia was largely inaccessible by rail, but in 1947 work began on the Trans-Mongolia line, a southern spur of the famous Trans-Siberian railway, connecting Europe with the Pacific. By 1955, the line had been completed, running 2215 km from the Russian to the Chinese border, via the capital, Ulaanbaatar. Add to this two earlier lines, one from Choibalsan to Borzya in Russia (built in 1939) and one from the Nalaikh coal mines to Ulaanbaatar (built in 1938), plus spurs from the Trans-Mongolian to mines at Erdenet and Baganuur, and 238 km of track between Bayan Tumen and Ereentsav, and that is the extent of the network.

Now, however, rail is returning as a key mode of transportation, as it tries to fully exploit its mineral reserves – and growing international demand for them – by easing their delivery to market. At the same time, with the Chinese economy’s surging growth, Mongolia can act as an increasingly vital transit route into China for goods from Russia and beyond. Rail has become a key issue in regional diplomacy, as Mongolia seeks to balance trade and politics with both of its giant neighbours.

ALL ABOARD: As with other transport segments, rail faces a number of key challenges to its development. First, there is the country’s deeply rooted communist heritage. Mongolia’s existing railroads were all constructed under Russian auspices, during the time when Mongolia was a key ally of the Soviet Union. Thus, the country’s tracks were constructed using the Russian 1520-mm broad gauge, which connects them seamlessly with all Russian-built rail lines, including the prominent and historic Trans-Siberian route.

Unfortunately, the neighbouring Chinese railways run on 1435-mm standard gauge tracks. This means that at the international rail crossing at Erenhot, on the Chinese side of the frontier, trains must change their wheel bogies before heading further south.

This operation, which requires the physical lifting of carriages and freight wagons and the detachment of one set of bogies and their replacement by another, usually adds approximately three hours to journey times.

SPLIT OWNERSHIP: Another legacy of the Soviet era is the single current operator and owner of all existing railway assets in the country, the Ulaanbaatar Railway Company (UBTZ). This is 50% owned by Russian Railways (RZD) and 50% by the Mongolian government, and is the result of a historical intergovernmental agreement signed between Soviet dictator Josef Stalin and the Mongolian leader at the time, Khorloogiin Choibalsan. This can create a conflict of interest in the railway’s management, particularly when strategic decisions involving Russian railways are concerned.

In recent years, the government has been trying to renegotiate the terms of this deal, and will likely continue to do so, although few expect there to be any rapid progress with this. The government also owns the Mongolian Railway State-Owned Shareholding Company (MTZ), which although currently lacks assets, is set to take an important role in the new railway development. “It is important that in the future ownership of our railway infrastructure that the government has a majority stake,” T. Batbold, the chairman of the Mongolia Railway Authority, told OBG.

Another challenge is the current state of the rolling stock, track and signalling, all of which are in need of modernisation. According to UBTZ, the network is already operating at full capacity when it comes to freight, with the need for investment in double-tracking, new rolling stock, a new signal system and IT infrastructure for network management.

TARIFFS: At the same time, a major challenge is the current tariff system, with UBTZ’s prices set by the government. The railway is obliged to carry social cargo – coal for domestic use, food, and international and domestic passengers, as well as building materials – all of which are transported on a loss basis.

According to UBTZ, of a total of 16.8m MT in cargo transported in 2010, 5.8m MT was coal for domestic consumption. For this, there is only a 60% cost recovery, meaning the network loses $0.40 for every $1 of transported domestic coal. The network also has to prioritise delivery of these social goods, taking up capacity for what might be more profitable exports. It also has to cross-subsidise the loss-making cargo from its more profitable lines of business, such as international coal, iron ore and copper concentrate shipments. The railway is attempting to change this arrangement, suggesting a state refund for losses on social cargo, with this likely to continue to be debated in the year ahead.

SHUNTING FORWARD: Although the Railway Transport Law allows for private operators, only UBTZ is currently active in the field, as it does not allow other firms to use its network. Yet private sector companies may be about to take on a larger role, as the state pushes ahead with a major new programme of investment.

Indeed, UBTZ is itself planning a major overhaul of its structure. The company, with around 16,000 employees, is one of Mongolia’s largest. It inherited a Soviet model of state enterprise, meaning it has its own hospital, college and building company. These non-transport sections are to be transferred to the government, with a subsequent phase of reorganisation seeing a series of independent companies created to handle railway-related tasks. A company for rail infrastructure, one for tracks, and another for signal and movement control look likely, alongside separate freight and passenger firms. Yet decisions on this will depend on the approval of the Russian and Mongolian governments.

OVERHAUL PLANNED: A major programme of network renewal is under way, known as the State Railway Policy. Originally laid out in three phases, a feasibility study commissioned by the McKinsey Group presented at the end of August 2011 proposed combining the first two phases to improve the business case for the project. This redesigned phase provides four export routes from the Tavan Tolgoi mine and takes in most of the lines proposed in the original first two phases, with some changes to improve the railway’s profitability.

This plan was approved by the government, and the Ministry of Road, Transportation, Construction and Urban Development authorised the construction of 1800 km of railway. The routes, which travel east and south from the mine are: Tavan Tolgoi-Choibalsan via Tsagaan Suvarga, Sainshand, Baruun Aurt and Khuut; Khuut-Numrug; Ukhaa Khudag-Gashuun Sukhait; and Nariin Sukhait-Shivee Khuren.

These routes are particularly vital for the broader development of Mongolia, as they will provide a rail link from the giant mines at Tavan Tolgoi and Oyu Tolgoi to the future industrial centre at Sainshand, connecting to the existing Trans-Mongolian rail and continuing north-east to the existing line to Russia. Furthermore, the line from Khuut creates a route to China, the main export market for Mongolia’s resources and exit point to further markets. Located in eastern Mongolia, this link will have a short journey to China’s Yellow Sea ports, enabling Mongolian exports to reach the wider world.

In the final phase, a westward expansion will take place, most likely connecting Dalanzagad with Altay, then forking north to the Russian border at Arts Suuri and west to Yarant. The route will be determined later.

Once completed, it is expected the total cost of the project will be $5.2bn. Approximately 60% of the project will be funded through debt financing, while the remaining 40% will be handled through equity investments. Additionally, 49% of MTZ’s shares will be made available through the Mongolian Stock Exchange in an initial public offering to assist in project funding.

TAKING THE FAST TRAIN: An additional plan currently in the pipeline is for a high-speed train between Ulaanbaatar and Beijing, which would be developed in cooperation with the Chinese Railway Ministry.

As with much of the economy, in the longer term Mongolian railways will be largely a China story. Demand for Mongolian minerals is immense just south over the border, let alone in terms of potential export markets in Korea, Japan and beyond. Demand in the Russian Far East does not compare, and while the trans-continental rail link to Europe may be a source of demand, it is likely to be China that takes up most of Mongolia’s mineral exports. With this in mind, it appears a wise choice to point its rails in the direction of surging Chinese demand to recoup the investments into the railway.