North Korean Economy Watch

On February 8, it was announced that the South Korean Ministry of Unification, the agency responsible for official interactions with the North, would not be merged with the Foreign Ministry (full story)–dealing an early policy blow to the newly elected South Korean President’s efforts to reduce the size of the South Korean government.

However, just three days later, on February 11,  the Chosun Ilbo reported that a South Korean government cash donation to North Korea (cash donations are apparently unlawful) has [surprisingly] gone missing:

In March last year South Korea gave US$3.8 million worth of aid, including $400,000 in cash and building materials, to North Korea to build a center for inter-Korean video-link family reunions in Pyongyang. But North Korea has not even started construction on the site, it was known on Sunday.

The donation violated a ban on cash aid to North Korea, but South Korea’s Ministry of Unification said at the time that there would be no room for suspicious dealings because the North agreed to inform the South where the money was spent and the South agreed to visit the construction site to find out whether the money and materials were used properly.

It has been almost a year since the aid was delivered, but it is not clear what the North has done with the cash and building materials. The South Korean government has demanded that it be allowed to visit the construction site, but the North has brushed off the requests, saying it will show the site “next time” or after the center is dedicated.

[and…] 

On eight occasions from early April to late August last year, South Korea delivered to the North building materials such as cement, iron bars, electric cable, tiles, drills, adhesive glue, interior furnishings, elevators, and air-conditioning and heating equipment. It also sent 10 buses and six Rexton SUVs.

When sending the materials, Seoul demanded five times that the North allow South Korean officials to visit the construction site and provide details on where the materials were used. All such demands were rejected. (Chosun Ilbo)

Today, February 14, South Korean military authorities admitted to knowing (since 2003, when the previous Roh Moo-hyun administration was inaugurated), that North Korea has transported rice supplied by the South for humanitarian purposes to front-line units of the Korean People’s Army.

The South Korean military has admitted it found no fewer than 200 South Korean rice sacks transported to North Korean Army units on about 10 occasions to the demilitarized zone including Gangwon Province between 2003 and recently.

This is the first corroboration by the South Korean military of testimony by North Korean refugees that the food aid provided by South Korea is being diverted for military purposes. But despite their knowledge of this fact, neither the South Korean government nor military authorities protested to North Korea or asked it for an explanation, apparently for fear of provoking Pyongyang. (Chosun Ilbo)

Updated: 2/21/2008: North Korea denies it diverted food aid to military. 

Now, I personally favor some kind of engagement policy with the North, but implementing an effective strategy is difficult.  Strict transparency and accountability are absolutely necessary to avoid mismanagement of public funds.  This is admittedly difficult, even in the OECD, much less in a secretive communist state.  Under the current circumstances, however, the North is treating the South like an unwanted lover, and this is not a healthy outcome. 

Handing out public funds with weak- or no-strings attached (as the South has done for years) creates markets in political corruption in the North.  The North Koreans know that the Ministry of Unification has a bureaucratic incentive to spent the money on aid.  If they don’t, it will not be appropriated in the next fiscal cycle.  This is why government budgets almost never go down, and agency heads go on a spending spree just before the fiscal year ends–use it or lose it.  The North Koreans have simply learned how to say the right things, etc., so the Ministry of Unification can check the box and pay up, because they know there will be no consequences when they fail to deliver.

So what is the solution?  If the South Korean government demonstrated some desire to monitor development aid, and reduce it if necessary (say “no” once in a while), they might encourage the North Koreans to do with the money as they claim (at least more so).

Another option available to the South Korean government is to stop using public funds to develop North Korea and instead free the South Korean business community, and other individuals, to take their chances contracting with North Korean entities themselves.  Putting their own Won on the line will definitely encourage private investors and venders to keep an eye on their balance sheets, and will help depoliticize the development of a country with a poor reputation.  

See the gratuitous game theory here.

You can read the referenced articles below:
S.Korea Knew Its Rice Feeds N.Korean Military
Choson Ilbo
2/14/2008

N.Korea May Have Diverted Cash Aid
Chosun Olbo
2/11/2008