The Real Cause Of The North-South Korea Crisis

Covid-19

By Daniel Sneider, Lecturer, International Policy at Stanford University and APP member

Toyo Keizai, June 23,2020

As tensions rise between North and South Korea, attention has understandably focused on the role of the Dear Sister, Kim Yo Jong. The sibling of North Korea’s Supreme Leader Kim Jong Un has emerged as the face of a nasty and provocative assault on South Korea.

Once the symbol of Pyongyang’s ‘smile diplomacy’ toward South Korea, the stern Kim now issues snarling denunciations of South Korean president Moon Jae-in. In her recent public statements, she claims to be in charge of unleashing the military to threaten the south and literally dismantle the few symbols of more than two years of North-South engagement.

North Korean dictator Kim Jong Un remarks largely out of sight, prompting ongoing speculation on his health and encouraging analysts to see the recent tension as mostly a platform to elevate his sister as his successor. But a deeper look inside North Korea points to a different culprit behind this new crisis – the Covid-19 virus.

Already struggling to overcome the impact of international sanctions, the North Korean economy has suffered a sharp downturn due to the need to seal the country off to prevent the spread of the virus from China. The economic distress seems to have made the regime even more worried about its control over a restless population. And it has added a level of desperation to the need for aid from the outside.

The escalation of rhetoric is intended to convince the South Korean government and ruling party to “break from the U.S.-driven sanctions regime,” a senior U.S. official in Korea told me. “I think they want the South Korean government to put into place legislation that would open up funding streams,” he explained, which would mean scrapping restrictions on trade and investment with North Korea, bypassing international sanctions.

North Korea’s economic situation was difficult last year but its trade with China and Russia - both official and illicit transfers that evade sanctions -- combined with the growing role of the market, made things manageable. “The overall situation was improving modestly over past years,” reports a Western aid worker who visits the North regularly, most recently late last year. “It reflects the determination of the people to survive and because they had a bit more freedom to make money in the market.”
The Pandemic Hits North Korea

Then the virus hit in January. The North Korean regime had experience with the previous epidemics of SARS and Ebola, says the aid worker, who has extensive knowledge of the medical system. It moved quickly to close the border with China on January 21, mirrored by Chinese efforts to seal the border from its side. According to the U.S. official, additional units of the Korean People’s Army were deployed on the border to crack down on smuggling operations.

“They didn’t have much choice,” the Western aid worker told me. “They know what could happen and that is why they reacted the way they did. They know their health care system is weak.”

The border closure sent a shock wave through the North Korean economy, cutting off the flow of tourists and their hard currency, curbing what little investment came from China, and drastically cutting official and unofficial trade. Almost overnight, Chinese exports to North Korea dropped to nearly zero, along with official North Korean exports to China (see graphic below). Some smuggling seems to have continued but analysts believe the border closing affected that as well. Bottom line - the flow of money and credit from China dried up.

The virus-driven downturn comes at a moment when the state-run sectors of the economy were already facing a systemic collapse. “Their planning system is completely broken down,” says William Brown, a former Central Intelligence Agency analyst who specializes in the North Korean and Chinese economies. According to Brown, there has been no mention of a new 5-year plan to replace the one that ends this year. Important segments of the economy – mainly large state enterprises that produce steel and other key goods – still depend on the planned system to deliver inputs and provide rations and wages to their workers.

Kim tried to get Trump to lift the sanctions last year at the Hanoi summit but failed, triggering a re-examination of North Korean policy in the aftermath. In a major policy turn in 2019, the North Korean leadership re-emphasized the need for “self-reliance,” once a watchword of their ideology. Now, says the former CIA analyst, “self-reliance means that you be self-reliant, not the nation.”
North Korea’s monetary problems

Monetary policy is a key weakness of the regime, argues Brown. The fear of uncontrolled inflation meant the adoption of a tight monetary approach, limiting the printing of the Won. On the plus side, it yielded some 5 years now of a steady exchange rate, creating the appearance of stability, and also encouraging growing use of hard currency in circulation. But on the downside, the state is not capable of pumping credit into its state-run enterprises. “They are telling the big steel mills and others, become self-reliant – don’t ask for money from us,” reports Brown.

Now the virus shut off the flow of hard currency from cross border trade and tourism and investment. In response, the regime announced in mid-April it would issue public bonds for the first time in 17 years. The bonds were to be used instead of cash to pay factories for materials needed to carry out big state projects, such as a massive new hospital in Pyongyang. But they were also aimed at forcing individuals and firms to turn in cash they had hoarded cash, including dollars, in exchange for the bonds.

This is hardly a popular decision, and the regime is cracking down on resistance. According to a report in Daily NK, which relies on defector networks, the director of a mining operation was arrested by state security and executed for criticizing the bond issuance at a meeting.

In April, the North Korean authorities also reportedly told private traders that they could restart their activities only if they gave significant foreign currency payments to the regime and imported from an approved list of goods, half of which would be required to give to the government. Smugglers were ordered to shift away from profitable electrical appliances and focus on basic food goods. According to a May 11 report by Radio Free Asia, the state banned the use of foreign currency for most transactions.

A meeting of the senior leadership of the Workers’ Party of Korea on June 6 and 7, chaired by Kim Jong Un, focused on the economic situation. At the top of the agenda was the need to urgently reconstruct the chemical industry, mainly to produce fertilizers, on a “self-reliant” basis – a clear signal that there are shortages of the plastics and fertilizers needed for agriculture. Due to sanctions and the border closing, “farmers don’t have the inputs they need – fertilizers, plastic sheeting, spare parts, fuel, not to mention tractors,” reports the Western aid worker, who has traveled extensively outside of Pyongyang over the past year. “We are heading for difficult times.”

Food supply always is in shorter supply at this time of year as the stocks from the previous harvest are depleted and there is not yet enough fresh food available. “It is not easy for people and especially those living in remote areas where farming is not easy to do,” the aid worker told me. “Spring and summer have always been difficult. Trading is now at near halt and there is a quarantine impact on cargo. There is not much gasoline available for internal transport. All this is putting more and more pressure on the regime.”

The second item at the June Political Bureau meeting was equally telling – “immediate issues of ensuring living conditions in the capital city.” This is a sign that the regime is having difficulties keeping up the flow of goods to the core elite living in Pyongyang, which has been essential for buying their loyalty.

Beginning last year, after the Hanoi failure, Pyongyang criticized the South for its failures to act independently of the U.S. But the current assault is a clear step up in attempts to coerce the Moon administration and the ruling progressive party. “The reason that the north-south agreements…did not see any light of even a single step of implementation was due to the noose of the pro-U.S. flunkeyism into which [Moon] put his neck,” Kim Yo Jong wrote in her June 17 statement.

Whether the Moon government is ready to open its coffers to the north remains to be seen. So far, the North Korean moves have been carefully calibrated not to provoke an uncontrolled ladder of escalation. The initial step of blowing up the joint liaison office took place on North Korean territory. Even the threatened moves to dismantle the progress in demilitarizing the border areas does not directly touch on U.S. or United Nations Command forces.

“They’re going to take their time with this,” predicted the U.S. official. “I don’t see the impetus to escalate quickly. They may overshoot the mark but if they are thinking rationally, they will take an action, take some time to see how Blue House responds to it, and then ratchet it up again.”

Meanwhile the pressures within will continue to mount on a regime that has no real answers for a population long tired of belt-tightening in the name of an unresolved civil war.

America’s Big China Mistake

Globalization has failed to make the country more democratic. It’s time for a different approach.

By Clyde Prestowitz

Washington Monthly, June 7, 2020

Since President Nixon’s historic “opening to China” in 1972 and President Carter’s formal recognition of the communist regime in Beijing, U.S. policy has been to promote trade and investment with China. I myself was a leader of the first U.S. trade mission to Beijing in 1982. Our strategy then and thereafter was founded on the notion that free global trade and investment would stimulate not only economic growth but also the spread of democracy and peace.

At the time, it seemed like a smart bet. The collapse of the Soviet Union in 1991 and Chinese leader Deng Xiaoping’s 1992 statement that “to get rich is glorious” seemed to confirm our ideas. Both unleashed euphoria in the West. Francis Fukuyama’s book, The End of History and the Last Man, was widely acclaimed. Despite having shot at least several hundred and perhaps thousands of its own students in Tiananmen Square on June 4, 1989, the Beijing regime was welcomed as a trading partner by the free world. Clinton campaigned for President under the slogan “no coddling of dictators from Baghdad to Beijing,” but as President adopted a policy of “positive engagement,” eventually negotiating to bring China into the World Trade Organization. Of China’s attempts to censor the internet, he joked: “I’d like to see them try to control the internet. It will be like trying to nail jello to the wall.”

But from early on, it should have been clear that this policy was misguided. The Clinton administration’s argument for bringing China into the WTO, widely supported by the economics and foreign policy establishment, was that doing so would liberalize China while dramatically reducing the U.S. trade deficit with Beijing. None of this took place. China became more authoritarian. The deficit mushroomed from about $80 billion annually to $500 billion. Many U.S. companies moved their factories to China to take advantage of cheap labor, the absence of unions, and the lack of safety and environmental regulations. Chinese State-Owned Enterprises (SOEs), meanwhile, began to raise billions of dollars of new capital by listing their shares on the New York Stock Exchange without meeting the same accounting standards as U.S. corporations.

George W. Bush and Barack Obama adopted similar policies, with similarly dangerous consequences. In 2005, as they continued to move production to China, free-world companies began suffering theft of their innermost secrets by hackers with ties to Beijing. Few people raised alarm. Similarly, no one seemed to be concerned when in 2012, General Electric Chairman Jeffrey Immelt, then also Chairman of President Obama’s Commission on Jobs and Competitiveness, transferred GE’s U.S.-based avionics division to China as part of a joint venture with China’s state-owned Avic. Because avionics is not labor intensive, cost reduction could not have been the reason for the move. Clearly, China had let GE know that if it wanted to sell avionics in China, it would be best to make them there.

It was all evidence that, rather than disappearing, SOEs were consolidating and becoming ever more powerful—as was the Communist Party. China began subsidizing economic sectors such as the semiconductor industry in pursuit of international leadership. Its SOEs began investing heavily and strategically abroad in everything from ports in Europe to telecommunications infrastructure in Australia. The country began dredging reefs and militarizing artificial islands in the South China Sea, along with sinking the fishing boats of other nations—all as part of its plan to seize control of the Sea. It began mass arresting its Uyghur minority.

This was not at all in keeping with the long held free world expectations, and eventually, even the biggest cheerleaders of free trade began to admit that, far from becoming a “responsible stakeholder in the liberal, global order,” China was bent on becoming the hegemon of its own authoritarian order. On March 1, 2018, The Economist announced in its cover story that the West had made the wrong bet on China. It simply wasn’t becoming more market oriented or liberal.

By now there has already been talk of companies targeted by China’s industrial policies “de-coupling” from the country: leaving completely. They began to move production to places like Vietnam and even back to the United States. There has also been economic analysis by MIT Professor David Autor and others showing that the offshoring of U.S. jobs has contributed to overall unemployment, and that it has been a drag on working—and middle-class incomes.

Still, there’s resistance to departing China by many companies. Billions of their dollars have gone into putting factories and supply chains in China and training their workers. The cost of tearing it all down and moving elsewhere, even if elsewhere has cheaper labor, seems daunting.

Now, however, the COVID-19 virus, China’s continued militarization of the South China Sea, its drive for high-tech autarky, and its muscling of Hong Kong have put the cost question in a different light. Previously, few asked about the potential cost of over-dependence on fragile supply chains anchored to a single production site in a somewhat hostile country. What would be the costs to the company or to a country if that supply chain went down? What was the cost of not being able to obtain key drugs, masks, ventilators or anything else that you had once made but had long ago outsourced? The virus has revealed the answer to be “very high indeed.”

Simply questioning the Communist Party invites retaliation, as Australia discovered when it called for an international inquiry into the origins of the virus pandemic. The world is slowly realizing that the risks from dependency on China are much greater and more dangerous than ever imagined. The United Kingdom, once ready to embrace Huawei technology, has said it will not. Countries like Japan have already budgeted billions of dollars to assist their companies in bringing their factories back home. Germany and others have imposed strict limits on investment in their countries by Chinese companies. The United States must learn from this experience and these examples. Indeed, there is already a bill in the U.S. Congress to add $100 billion to the budget of the National Science Foundation specifically for the purpose of maintaining U.S. technology leadership over China. The Trump administration is also now limiting exports of some advanced U.S. semiconductor technology to China.

This is not to say that globalization can or should be halted. But it is to say that globalization must be guided by better understanding of its true costs and benefits—and by consideration of the welfare of all citizens, not just that of big corporations. No democracy with a rule of law can afford to be tightly coupled economically with an authoritarian China.

Clyde Prestowitz
Clyde Prestowitz is the founder and president of the Economic Strategy Institute. He formerly served as counselor to the secretary of commerce in the Reagan administration, as vice chairman of President Bill Clinton’s Commission on Trade and Investment in the Asia-Pacific Region, and on the advisory board of the ExIm Bank. His most recent book is The Betrayal of American Prosperity. He is a Senior Fellow at Asia Policy Point.
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