[South Korea's North Korea Strategy] III. Structural Vulnerabilities Behind Recent North Korean Economic Recovery and Policy Implications

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Video Transcript

The Underlying Factors of North Korea's Economic Recovery: Diagnosis of Structural Vulnerabilities

Hello, it is a pleasure to meet you. My name is Lee Jong-min, and I work at the National Defense University. The topic of my presentation today is the structural vulnerabilities underlying North Korea's recent economic recovery and the policy implications thereof. You may have heard much about the recovery of the North Korean economy recently. Considering inter-Korean relations, it has been interpreted that North Korea has reached a structural point where it no longer seeks improvement in relations with South Korea, as it has nothing more to gain from it, and there are many interpretations that North Korea itself expresses this sentiment. The question I would like to raise is whether the current situation will persist in the future.

As mentioned, since the second half of 2022, North Korea's economy has been rebounding following the pandemic. The most commonly cited data regarding North Korea's macroeconomic trends is the real GDP figures estimated by the Bank of Korea. The year 2016 represents the period before the intensification of sanctions against North Korea, during which the economic level of North Korea is illustrated.

From 2017 to 2022, North Korea's economy experienced a stepwise decline due to sanctions and COVID-19. However, it rebounded to around 3% in 2023 and is projected to reach 3.7% in 2024. This indicates a recovery to pre-COVID-19 levels, and the recovery to levels prior to the sanctions is not far off. If this growth trend continues for about two years, it is expected that North Korea will restore its economic scale to that of before the sanctions.

The driving forces behind this economic recovery appear to be twofold. First is the resumption of trade with China. North Korea's trade with China was nearly halted due to COVID-19 lockdowns in 2020 and 2021, but it began to reopen in the second half of 2022, leading to an increase in trade. Imports have recovered to about 90% of the levels seen in 2019, while exports have roughly doubled compared to pre-2019 levels. Although this is still below the levels prior to the sanctions, it is significantly higher than before COVID-19.

The second factor is the special circumstances arising from the Russia-Ukraine war. Since 2023, North Korea has been supplying munitions and missiles to Russia, and in return, it has been confirmed that it is receiving food and refined oil. Military cooperation has expanded into the economic realm, with the dispatch of soldiers and workers also taking place. Previously, it was speculated that North Korea was receiving goods, but recent observations suggest that it is now receiving cash from Russia.

Sustainability of the Recovery Trend and the Need for Qualitative Analysis

I would like to question whether this recovery trend is indeed a sustainable growth path or merely a temporary rebound. The core driving force of the recovery is heavily reliant on the single market of China and the temporary demand created by the war, thus additional factors are needed for it to transition into a sustainable growth driver. Furthermore, while exports have increased, they are limited to a few items and are concentrated on short-term demand, indicating a vulnerability.

This report aims to diagnose the sustainability of the recovery trend through an analysis of structural qualitative elements beyond the quantitative changes in trade, and to derive policy implications. The analysis will focus on the period when the North Korean economy was performing well, specifically until the mid-2010s, prior to the sanctions. The reason for analyzing a past period is that North Korea may continue to attempt to undermine the sanctions by utilizing the increasingly porous routes through China and Russia. In this context, I have set this period to provide implications on whether the North Korean economy can embark on a path of sustainable development and growth.

While updates are possible, the most significant implications are found in the situation up to the mid-2010s, which is why I have chosen to analyze it in this manner. Since the 2000s, the qualitative level of North Korean exports has been evaluated using three indicators: first, the diversity of export items; second, the qualitative advancement of the export item structure; and third, the price conditions of export items.

Changes in Economic Policy and Foreign Strategy Since Kim Jong-un's Ascendancy

Before delving into the analysis, I will discuss North Korea's economic policies. In the early years of Kim Jong-un's rule, there was a significant acceptance of markets and numerous reformative attempts through limited opening. In the industrial sector, the socialist enterprise responsibility management system was implemented to enhance corporate autonomy, while in the agricultural sector, the farm responsibility management system was introduced to subdivide farms into smaller units and grant them autonomy. Additionally, economic development zones were established in various regions to lay the groundwork for joint ventures with foreign entities.

While there were policies to expand freedoms during Kim Jong-il's era, Kim Jong-un's measures are evaluated as more advanced in terms of enhancing autonomy and institutionalizing the market economy system compared to the Kim Jong-il era. However, a significant change occurred following the Hanoi summit in 2019. Kim Jong-un's journey to Hanoi by train showcased his expectations for the summit's outcome. However, the summit ultimately collapsed, leading to a shock. Subsequently, a policy shift occurred.

After the collapse of the Hanoi summit, North Korea adopted slogans such as 'self-reliance' and 'frontline breakthrough,' abandoning attempts to seek a breakthrough through short-term improvements in foreign relations or negotiations with the United States. It shifted to a strategy of seeking breakthroughs under the condition that the current structure persists for the time being. In terms of economic management, there has been a tendency to strengthen central control, counter to the previous decentralized policies. Policies prioritizing controllability over efficiency have emerged in corporate management, foreign trade, commercial distribution, and the financial sector.

The same applies to foreign strategy. Economic and military cooperation with China and Russia has emerged as a core axis. In particular, North Korea is actively leveraging external situations such as the Russia-Ukraine war and U.S.-China strategic competition to promote a 'new cold war' framework. In contrast, relations with South Korea are moving towards significant disconnection.

Considering the economic background, the benefits North Korea could gain from improving relations with South Korea include profits from economic cooperation, international aid, and attracting foreign investment. Conversely, the costs include the loosening of social control due to the infiltration of South Korean culture. Given the ongoing sanctions against North Korea, it has been confirmed that the benefits are difficult to realize, while the costs continue to accrue, leading to the judgment that there is no need to maintain relations with South Korea.

Deepening Dependence on Trade with China and Qualitative Deterioration of Export Structure

I will now present the results of the qualitative analysis of the trade structure. As background knowledge, the current China-centric trade structure is relatively recent, having existed for about 15 to 20 years. Prior to this, there was a significant proportion of trade with neighboring countries such as South Korea and Japan. The current structure emerged due to external conflicts with South Korea and Japan, which led these countries to halt trade with North Korea.

Due to sanctions and COVID-19, trade with China significantly decreased, but it has been rapidly recovering since the reopening in 2022. North Korea's exports to China are concentrated on a few items. Before the sanctions, major exports included coal, iron ore, clothing, and seafood, but after the sanctions, alternative items were identified. Currently, exports include eyelashes, talc (which is not subject to sanctions), and molybdenum. The quality of exports has been examined through three indicators: diversity, upward movement in value-added, and improvement in trade conditions.

Diversity indicates how widely export items are distributed. Higher diversity enhances resilience against external shocks. Concentration on a few items can be structurally risky. The calculation method weighs the importance of each item against the number of export items.

The red graph represents North Korea's export item diversity index. A value closer to 1 indicates greater diversity. Compared to other Southeast Asian countries, while they consistently show an upward trend, North Korea has remained stagnant since the mid-2000s. This contrasts with Southeast Asian countries that have achieved economic development through exports and expanded their diversity.

This stagnation appears to be due to North Korea's trade being heavily one-sided towards China, limiting exports to meet specific Chinese demands. The second aspect is the advancement of export industries. This indicates how technologically advanced the composition of export items is and how similar it is to that of developed countries. The capital and technology intensity of export items is represented by a weighted average of the capital and technology levels required for the production of those items. The export advancement index indicates how similar a country's export structure is to that of high-income countries.

Since the late 2000s, there has been a sharp decline in capital and technology intensity. An analysis separating exports to China from other exports shows that this phenomenon is only present in exports to China, indicating a qualitative decline in North Korea's overall exports.

The export advancement index, which indicates how similar the composition of export items is to that of developed countries, also shows a decline for North Korea, represented by the red graph, since the mid-2000s. In contrast, other Asian countries show an upward trend. Finally, I examined relative prices. Relative prices are calculated by dividing the unit price North Korea receives when exporting to China by the unit price China pays when importing from other countries. A value of 1 indicates equal prices, while a value less than 1 indicates that North Korea's export prices are lower.

In this context, since the early to mid-2000s, North Korea's relative price index for exports to China has declined, maintaining an average of around 60-70%. The reasons are as follows. North Korea previously traded significantly with South Korea and Japan, but with the cessation of trade with these countries, China has become almost the sole buyer. This situation greatly diminishes North Korea's price negotiation power as a seller. In simpler terms, it can be interpreted that China is driving down North Korea's export prices.

Expansion of Cooperation with Russia and New Opportunities

Overall, North Korea's economy is not expanding in terms of diversity, and the qualitative level of its export structure is deteriorating. In terms of prices, China is lowering North Korea's export prices. The causes of these three phenomena all stem from the extreme dependence on China. However, with the increase in cooperation with Russia, new opportunities are emerging.

Since 2023, North Korea has been supplying millions of shells and missiles to Russia annually, and it has been confirmed that approximately 15,000 troops have been officially dispatched. In exchange for military cooperation, North Korea appears to be receiving food, crude oil, refined oil, and possibly military technology, although this has yet to be confirmed. What can North Korea gain from its cooperation with Russia? Russia is a country that exports goods that North Korea needs on a global scale. It is the world's leading exporter of food and wheat, and it also ranks highly in oil and fertilizer exports. Therefore, Russia can serve as a complementary channel to alleviate North Korea's dependence on China. Additionally, North Korea has already dispatched many workers to both China and Russia.

While the scale of dispatch to China is larger, it is reported that the per capita income is significantly higher in Russia. This is due to differences in industries. Workers dispatched to China primarily engage in low-wage service industries or light industry, while those sent to Russia mainly work in construction. Consequently, the per capita income of workers dispatched to Russia is found to be two to three times higher than that of workers sent to China.

Structural Limitations of Cooperation with Russia and Future Prospects

However, structural limitations also exist. While Russia can offer many items to North Korea, there are not many goods that North Korea can import from Russia, which is the first limitation. In terms of infrastructure cooperation, there is a problem that there are not many projects through which Russia can recoup its investment by investing in North Korea's infrastructure. Additionally, there is a limitation regarding what will happen if the Russia-Ukraine war comes to an end.

Three Pillars of North Korea's Economic Policy and Future Variables

Currently, North Korea's economic policy appears to consist of three pillars: economic recovery through the expansion of trade with China, the establishment of complementary measures through military-economic cooperation with Russia, and internally, the strengthening of central authority and state control. While these two economic drivers are facilitating recovery in the short term, as previously mentioned, they all contain structural vulnerabilities.

The Importance of Future Variables and Securing Policy Flexibility

It is not necessarily the case that economic difficulties will immediately translate into policy changes. This has been the case thus far. Therefore, I believe there are four variables we should pay attention to in the future. The first is the conclusion of the Russia-Ukraine war. The variable is whether cooperation with Russia will continue after the war ends. The second is how China evaluates North Korea and how it intends to utilize North Korea's strategic value within the context of U.S.-China conflict. So far, North Korea has merely been a card held by China.

The third aspect is what will happen if North Korea comes to the negotiation table in the future. The fourth is internal economic variables. Given the current skyrocketing market prices in North Korea, there is a question of whether the instability in the internal market will translate into political pressure. Finally, there is the issue of how North Korea's national competitiveness will fare in the age of AI. Currently, North Korea's national competitiveness is not high, but the widening technological innovation gap in the AI era could lead to a loss of industrial competitiveness. This could pose a very dangerous factor not only economically but also militarily. Considering these variables, even if the sanctions against North Korea are neutralized, it is highly doubtful whether North Korea can continuously pursue economic growth or development.

Therefore, it is necessary to closely monitor the four variables mentioned and secure policy flexibility with a long-term perspective. Additionally, while we should not underestimate the adaptability or resilience of the North Korean people, it is also an excessive interpretation to assume that this will continue indefinitely. Thus, it is essential to keep the possibility of change open and to prepare in advance for how to engage at the moment of change. That concludes my presentation. Thank you.