Slave to the Blog: The Waiting Game I

June 30, 2016 7:00 AM

We have argued in previous posts (here and here) that North Korea is vulnerable to an old-fashioned balance of payments crisis. Some of the shocks the country is facing—the slowdown in China trade, the closing of Kaesong, the likely effects of further controls on banking and shipping—are large. But there is also a “retail” sanctions enforcement game going on, aimed in part at illicit activities. These constraints are producing signs of nervousness from the leadership, visible in a number of recent policy initiatives. We take up the evidence on these constraints and discuss the political and military implications in a subsequent post.

Starting with the larger shocks, KOTRA has released some data from its annual report on North Korea’s trade. We will be reporting on it in more detail shortly, but the headline findings are worth noting (Yonhap coverage here). Overall trade was off fully 18% (from $7.61 to $6.25 billion). But what is particularly interesting is that imports fell more rapidly than exports (30% vs. 15%). The implication: the current account deficit is narrowing—down fully 33%—which can also be seen as a reflection of a decline in capital inflows, probably including trade credit.

I have argued that China appears to be cautious with respect to sanctions enforcement. But this does not mean it is sitting still with respect to illicit activities that have implications for China itself. Joongang has a nice piece of journalism on the arrest of a North Korean in Dandong who had brought $5 million in cash into the country, some of which was found to be counterfeit. The individual in question was a former member of the Operations Department, responsible for espionage and provocations vis-à-vis the South; the story shows how such operations are funded and the seamless connections between nominally-commercial activities, the regime and military. The story claims that the account in question was frozen, raising the question of why it was open in the first place; clearly, the border remains porous.

A second story in a quite similar vein: Yonhap reported recently on arrests in March of “dozens” (apparently Chinese) involved in an arms smuggling operation directed by the Second Economic Committee (in effect, the agency in charge of the military-industrial complex, including arms exports). Hankyoreh, drawing on Japanese and other sources, added to the account by noting that a North Korean was also arrested in the bust, and with a similar profile to the story just noted: in possession of gold bars and 30 million yen (US$281,000) in cash.

Both the changing macro picture and the evidence of the disruption of particular operations are reflected in a recent DailyNK piece on the settlement problems North Korean and Chinese traders are now confronting. Companies under the Ministry of External Economic Affairs, as well as those under Office 39 engaged in illicit activities, are showing evidence of distress. The evidence? Payments are dragging out. According to one DailyNK source, “up until early May, payments normally wouldn’t be any later than 15 days, but now there are a lot of cases where companies have been unable to pay even half the amount owed over a month past the due date.”

If these stories are true, it is inevitable—inevitable—that these shortages will show up in the black-market exchange rate. 

Of course, the regime will do what it can to forestall the inevitable. One indicator: new controls of various sorts. Marc Noland recently noted the apparently-irrational news story that the regime has banned individual travel to China. Marc’s point: that during a time of stress, you want individual traders doing business. An alternative explanation: that if these traders are trying to get foreign exchange out, or are simply operating in foreign exchange that the regime seeks to monopolize, the policy looks less irrational.

Another story in support of this interpretation: a notice in none other than the Pyongyang Times entitled simply “New Regulations to Control Foreign Exchange in EDZs [economic development zones].” We will be looking at the regulations in more detail in a future post, but the PT coverage is pretty clear that the measures are designed to exercise more central control. There are no limits on bringing foreign exchange into the country. But we heard from an informant that banks in Rason—the only case that really matters here—were effectively changing money at the black market exchange rate. The new regulations state clearly that setting of the exchange rate in the zones and control over capital outflows—including of gold and precious metals—will be firmly under the “central financial governing organ.” The title of the article says it all: this hardly looks like a liberalization of the capital account to me.

A final indicator worth noting: the the return of language about self-sufficiency in food. Rodong Sinmun could not be more clear about the self-sufficiency/security linkage: self-sufficiency is "like a hydrogen bomb that can intimidate enemies trying to suffocate North Korea through various sanctions and threats." Whenever there is self-sufficiency language, there is a campaign to go with it, in this case a disturbing story about how middle and high-school students are being mobilized to gather edible greens for the troops. Another feature of these campaigns: that they are not only a tax on labor, but a means of raising revenue as well. Those unable to meet quotas will be required to make cash contributions to the government. How long before those contributions will be required in dollars or yuan? 

In short, the picture is not pretty. Nonetheless, I close with the perennial caveat that whether these pressures cumulate will depend crucially on whether China, including the government, traders and smugglers, do. I have sympathy with China’s dilemma; it is not clear that squeezing harder will generate the desired political response, and could clearly have adverse effects on the border and the wider security environment facing Beijing. But one thing is certain: that if China acts as the lender of last resort during this crisis, there is no way that North Korea is going to rethink its grand strategy. Long live the byungjin line!

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