North Korean Economy Watch

From the Donga:

On May 16, Korea and the Association of Southeast Asian Nations (ASEAN) reached an agreement on the modality for freeing their goods, a core part of a free trade agreement (FTA). Under the agreement, the goods produced in North Korea’s Gaesong industrial complex will be recognized as Korean if the products meet certain terms.

The Office of the Minister for Trade announced that Trade Minister Kim Hyun-jong and trade ministers from nine ASEAN members signed an agreement on FTA goods trade on this day in Manila, the Philippines, leaving out Thailand for the time being.

The Korean government plans to ask the National Assembly to ratify the agreement in the regular session in September so that it can take effect within this year.

Only 100 items out of the products made in Gaesong industrial complex will be recognized as “Made in Korea,” as long as more than 60 percent of the materials from which they are made are of South Korean origin or if the added value of South Korean materials put in the product is more than 40 percent.

Kim Han-soo, FTA bureau chief, said, “If needed, Korea can make a request for a change in the items recognized as Korean made.”

According to the agreement, Korea and ASEAN are bound to remove tariffs on 90 percent of the number of import items and of the import amount respectively by 2010.

Tariffs on “sensitive items” including squid, mushroom, and pumpkin will be lowered to 0 ~ 5 percent by 2016. “Highly sensitive items” will be excluded from the market opening and be protected by means of a limited level of tariff cut by 2016 or a tariff rate quota.

Forty-five items such as rice, chicken meat, live or frozen fish, and most fruits are protected from the opening.

The Office of Minister for Trade said, “This is the first FTA which Korea signed with the fifth largest export market.” And it also predicted, “In the mid to long term, the FTA with ASEAN is expected to increase Korean exports to the ASEAN region by $10 billion and trade surplus by about $6 billion annually.”

Well, I discovered this series of events that really peaked my curiosity.  The Friederick Naumann Foundtaion has hosted two conferences on DPRK economic reform in Pyongyang. 

From the Foundtaion’s web site:

Since 2004, the Friedrich Naumann Foundation has been organizing seminars and workshops in North Korea in order to transfer knowledge on market economy. The first EU-DPRK workshop, which was held in August 2004 focused on economic transition processes and the changes in the DPRK since 2002. This second meeting had a more specific focus on practical issues that were raised last year such as the role of the state in economic management, strategies to attract foreign direct investment and the restructuring of state-owned enterprises and agriculture.

I have reconstructed this short agenda with links to relevant papers:

Opening: Kung Sok Ung, Vice Minister of Foreign Affairs of the DPRK (in attendance: almost 100 DPRK officials from economic ministries, institutions, and universities as well as reps from the EU)

Session 1: The Role of the State in Economic Management
Dr. Ari Kokko, professor at the Stockholm School of Economics
Paper: Economic Systems and the Role of the State

Dr. Dusan Triska, former deputy Minister of Finance, Czechoslovakia
Paper: Redefining the role of the state: public planning and management tools

Mr. Max van der Sleen, Chairman of ECORYS Netherlands
Paper: Macro-economic tools of the State to manage the economy

Session 2: Conditions and Strategies to attract investment: experiences of the new member states of the EU
Dr. Andrea Szalavetz, Senior Research Fellow, Hungarian Institute for World Economics
Paper: Mobilizing foreign capital to promote catching-up and modernization: The Hungarian experience

Dr. Jacek Mironski, researcher at the Warsaw School of Economics
Paper: Human Resource Management and Investment in Human Capital

Mr. Han Dok Son, DPRK’s University of National Economy
Paper: Actions for Modernization of National economy in DPRK

Session 3: Restructuring state-owned enterprises and agricultural sector: Methods and implementation.
Mr. Ju Yong Seol, Economic Research Institute of the Cabinet
Paper: New economic measures taken by the DPR Korea and the experience gained from their implementation

Dr. Bruno Dallago, University of Trento
Paper: Creation and development of small and medium-sized enterprises (SME)

Dr. Brigitta Kauers, Head of Division at Germany’s Federal Ministry of Finance
Paper: Experiences with the Treuhand agency in Germany

Dr. Michael Cuddy, National University of Ireland
Paper: Some thoughts on agriculture and rural development in the DPRK

Report on the Conference

Yonhap
5/11/2006

The head of South Korea’s National Red Cross is to visit North Korean capital Pyongyang later this month to discuss enhancing medical cooperation between the divided Koreas, Red Cross officials said Thursday.

Red Cross President Han Wan-sang is to be accompanied by 40 officials including hospital heads and 13 officials from the Korean Hospital Association, on his five-day trip to the communist state from May 26, the officials said.

“President Han is scheduled to meet with officials from the North Korean Red Cross, including its Chairman Chang Jae-on, to hold negotiations on ways to develop and increase cooperation and exchanges between South and North Korea,” the Red Cross said in a statement.

Accompanied by heads and officials from other humanitarian organizations and 12 pharmaceutical companies, the Red Cross chief will deliver over 3.7 billion won (US$3.9 million) worth of medical supplies and equipment to the impoverished North, the statement said.

The 41-member delegation will fly directly to the North Korean capital, according to the Red Cross officials.

Red Cross officials from the two Koreas occasionally hold talks to resolve humanitarian issues between the divided countries, such as the tens of thousands of people who remain separated from their family members since the end of the 1950-53 Korean War.

The sides are scheduled to meet to arrange upcoming rounds of reunions between the separated families in June and August.

The South Korean Red Cross provides large amounts of fertilizer and food aid to the North in addition to its annual medical and technical support for the impoverished country, which has depended on outside handouts to feed a large number of its people since the mid 1990s.

From the Korea Herald:

The 39th annual meeting of the board of governors of the Asian Development Bank will be held at Hyderabad International Convention Center in Hyderabad, India’s fastest growing high-tech corridor, for four days ending on Saturday.

The meeting this week will bring together more than 2,500 delegates from around the world to discuss issues including governance, poverty reduction, development finance, international finance architecture as well as economic and social development.

The ADB, which is dedicated to fighting Asian poverty, does not make any investments in North Korea, which could benefit from various education and training projects.  The prospect of membership would also encourage the nation prepare for it by reforming their economy.

Strong U.S. and Japan led-opposition has kept North Korea from becoming an ADB member nation so far, the insiders said.

From their website: 

Tom J. Payne frequently travels to the north of China to Liaoning Province and the commercial region of the DPRK.  Specifically, we are active in the Dandong region which is the main city bordering on North Korea.   This allows us a close up view and quick jaunts into the Worker’s paradise.   Our friends at the Liaoning Import Export Corporation conduct around 90 percent of their business with the North, and trade food, for steel.  They operate duty free stores and restaurants in the capital city and even sell automobiles to VIP communist leaders.  Here are just a few images from the frontier.  Give Tom a call if you want to learn more about what is really going on in North Korea.  thomaspayne@msn.com   (Although we are not allowed to do anything, there, we certainly know people who are!) Until last week!  The doors are now open, and we will be presenting information on doing business with the Hermit Kingdom! 

He ansers the following quesitons:

What is the business climate like?
Do the North Koreans Pay their Bills?
Are there small business opportunities?
Are there private businesses operating in the DPRK?
What about all of the aid organizations etc…
What can a foreigner source in the DPRK?
What do the North Koreans Need? 
Will the political climate change?
How does a westerner survive there?
Can you access the internet from there?

Asia Times
Lora Saalman
2/8/2006

On January 10, North Korean leader Kim Jong-il traveled in a luxury train to China’s Guangdong province to sample socialist-flavored capitalism. Just a few months earlier, the North Korean Workers Party introduced reform measures granting foreign investors tax cuts and allowing them to sell goods produced in North Korea without tariffs.

For an economy that ostensibly issued halting economic reforms in 1984, these new measures constitute a revolution, albeit one with Chinese characteristics. In accordance with its giant neighbor’s model, North Korean economic reform is predicated as an alternative to the instability of political liberalization. Unforeseen social and political shifts are to be cushioned by financial solvency to keep the regime intact. With China’s assistance and unofficial aid, sustainable growth may one day be achieved in North Korea. Yet a darker side to North Korea’s economic awakening remains.

Kim Jong-il’s visit comes on the heels of accounts of North Korean money-laundering in Macau and the US decision last June and again in October to freeze the assets of various North Korean companies and financial institutions. While many of these firms are beyond the reach of US sanctions, implied misconduct has already led to runs on the North Korean-affiliated financial institution Banco Delta Asia in Macau.

As allegations swirl of money-laundering through counterfeit cigarettes and currency, a less-known story has emerged on British American Tobacco’s previously undisclosed four-year-old joint venture in North Korea. It presents the dilemma of doing business in a country in desperate need of revenue but with a poor track record of allocating resources to its people. This cautionary tale begs the question as to where exactly Pyongyang’s joint-venture profits are going.

For North Korea, which lacks many of the basic laws for financial transparency and good governance, capital investments are more than economically precarious. Shared contact information and dubious management practices among North Korean companies are ubiquitous.

Daesong-BAT is one of a handful of Western joint ventures in North Korea. The far-reaching tentacles of its North Korean partner illustrate the complexity of verifying the background and connections of any North Korean entity. Like many of its compatriots, North Korea’s Sogyong General Trading Corp (Sogyong) boasts circuitous and often indirect ties to entities engaged in proliferation, international trade, shipping, and money-laundering. These indicators point to larger concerns as to whether joint ventures, particularly Western ones, can be manipulated by North Korea for illicit financing of the regime or even to sustain its alleged WMD (weapons of mass destruction) programs.

Joint ventures and front companies
In establishing Daesong-BAT, British American Tobacco teamed up with Sogyong General Trading Corp, a Pyongyang-based state trader best known for its carpet exports. Sogyong, however, also exports such products as handicrafts, furniture and agricultural produce, while importing machinery, electronics, fishing tackle, chemicals and fertilizer. It is not uncommon for North Korean state-run enterprises to deal in everything from machinery to fishing tackle. Yet eclectic product lists make trade in illicit drugs and weapons all the more difficult to track. Cigarettes are just one more product in the Sogyong export-import pantheon.

North Korean company product lists also rarely convey their full range of trade. Seemingly innocuous industries are often manipulated as front companies. Last year, for example, Japan’s Ministry of Economy, Trade and Industry (METI) listed what appeared to be an innocuous North Korean food manufacturer, Sosong Food Factory, for its participation in nuclear, missile, chemical and biological-weapons proliferation. Cigarettes, like food, have been used at times to mask the real objects being transferred. In one case, Japan in 2002 seized a Chinese vessel and found that the declared store of cigarettes on board actually contained drugs thought to have come from North Korea.

While not as licentious as drug or human trafficking, even the black-market trade of cigarettes could have a tangible impact on North Korea’s financing, as seen in Eastern European illegal cigarette rings. These factors highlight the danger of taking a North Korean food or even carpet manufacturer at face value.

North Korea’s network
Among the elements of obfuscation, the company name Daesong-BAT merits attention. Rather than combining or modifying the titles of the two partner companies to form Sogyong-BAT, Daesong-BAT combines British American Tobacco’s acronym with a name that could either point to North Korea’s Daesong district or Daesong General Trading Corp (Daesong). If it turns out to be the latter, Japan and other governments have prominently featured Daesong for its ties to missile and nuclear proliferation.

Incidentally, Daesong maintains one of the most extensive and convoluted North Korean networks, with more than 10 subsidiaries. It also is suspected of falling under Bureau 39, which earns foreign currency for North Korea. A direct connection between Daesong-BAT and the sinewy Daesong franchise has yet to be established but, as illustrated below, nothing is clear cut in North Korean business relations.

Because of the lack of transparency and convoluted nature of North Korean companies, contact information often serves as the first stencil for tracing overlap between industries. In the case of Daesong, the US Central Intelligence Agency’s Open Source Center follows the use of the same fax number to establish potential business and branch linkages. If the same logic is applied to Sogyong, another pattern emerges. Sogyong shares common fax numbers with at least two companies, Korea Foodstuffs Trading Corp (Foodstuffs) and Korea Kwail Trading Corp (Kwail). These companies in turn share fax numbers with nearly 100 companies in North Korea.

Among North Korean firms sharing contact information with Sogyong-linked entities, Japan’s METI and official European export monitors have listed at least six as end-users associated with North Korean WMD programs. In October, the US government targeted one in particular, Korea Ryonha Machinery Joint Venture Corp (Ryonha), freezing its assets under US jurisdiction and placing it on the US Specially Designated Nationals and Blocked Persons list. Ryonha is a prime example of the complex web of North Korean subsidiaries. Last June, the US Treasury Department also targeted the assets of its parent company Korea Ryonbong General Corp, formerly known as Lyongaksan, which heads five other US-designated entities.

Ryonha is not an aberration among companies converging with Sogyong. Among other Foodstuffs and Kwail-connected entities, Korean company databases list Korea Pyongyang Trading Corp as a distributor of methane gas derived from animal excrement. Apparently, effluent is not its only fetid source of income. The Japanese government has listed the very same company, along with subsidiaries of two other firms tracing back to Sogyong, namely Korea Ryonhap Trading Corp and Korea Jangsu Trading Corp, for nuclear, missile, chemical and biological weapons proliferation.

Proliferation networks may not be the only mechanisms at Sogyong’s fingertips. Contact information also links the two Sogyong-connected associates with at least four North Korean financial institutions. Among these, Koryo Bank and Korea Joint Bank have alleged ties to the now-infamous Banco Delta Asia in Macau. Banco Delta Asia’s own purported involvement in counterfeit-currency distribution and counterfeit-cigarette smuggling does not bode well for Daesong-BAT, no matter how convoluted their connections. Banco Delta Asia may have three degrees of separation between it and Sogyong, but in North Korea’s fishbowl of finance this does not preclude cooperation.

Banco Delta Asia is also reported to maintain a close business relationship with Macau-based Zokwang Trading, which its own vice general managing director claims is a part of North Korea’s Daesong General Trading Corp. Daesong, as mentioned earlier, has a pervasive proliferation record. It also has reported links to Changgwang Sinyong Corp (Changgwang), which has been repeatedly sanctioned by the United States for its missile-proliferation activities and sales to Iran and Pakistan. Zokwang in turn deals in missiles and nuclear-power-plant components, all the while maintaining a partnership with the notorious Changgwang. Combined with Sogyong’s branch in the joint \-venture hub Shenyang, China, even indirect ties to Macau suggest that Sogyong has the ability to tap into proliferation, industrial and financial networks in China and beyond.

Proliferation, industry and finance mean little without the means to transport goods and technology. Sogyong-associated entities Foodstuffs and Kwail share fax numbers with North Korea’s national airline Air Koryo, which has also been cited by official European monitors for proliferation. A 2003 Far Eastern Economic Review article even named Air Koryo as the transportation mechanism for Daesong’s suspected military assistance to Myanmar. Sogyong’s own shipping vessels Sogyong 1 and 2, which were detained in Japan on safety violations in December 2004 and January 2005, complete the final leg of the contact-linked proliferation, financing and shipment triangle. This network belies a much more intricate set of alliances than the domestic-consumption-based joint venture touted by British American Tobacco and Sogyong General Trading Corp.

Standards of business conduct
British American Tobacco’s website advocates transparency in international business and laudably eschews bribery, corruption, illicit trade, and money-laundering. In October, BAT executives further contended in The Guardian that the company’s North Korean cigarette joint venture fuels only domestic consumption, not exports to China or elsewhere. In spite of these reassurances, BAT is no stranger to the dangers of black-market cigarette production and transshipment. A February 2000 article in The Guardian even accuses BAT of complicity, by knowingly allowing illicit smuggling of its cigarettes to occur.

In the case of Daesong-BAT, British American Tobacco officials have admitted to knowing little of the company’s North Korean joint-venture operations. Ominously, BAT has stated that an unnamed Singapore division controls its North Korean joint venture. Lack of oversight combined with a dubious North Korean offshore mechanism for managing an ostensibly domestic industry raises significant warning signs. The incestuous relationship between state-run North Korean entities that share fax numbers of companies and banks listed for WMD procurement and money-laundering through counterfeit tobacco should also elicit concern. These are not simply dilemmas for British American Tobacco, but pose challenges to any companies forming joint ventures in North Korea.

Economic integration, as in China’s case, may bring North Korea more into step with international norms and standards. Ironically, engagement that is likely to lead to greater future transparency may also be manipulated for North Korea’s short-term illicit gains.

In 2003, the British government pressured BAT to close down its cigarette factory operations in the military dictatorship of Myanmar because of concerns over that country’s lack of human rights. Given the legion of obstacles impeding transparency in North Korea, BAT and other Western firms could be contributing to the worsening of more than human rights. They could be aiding and abetting illicit North Korean financing that is alleged to fuel Kim Jong-il’s slush fund and WMD programs.

Bloomberg
Bradley K. Martin
12/28/2005

A sign of North Korea’s fledgling moves toward a market economy can be found at the Pyongyang monument commemorating the 1945 founding of the Workers’ Party. Beneath a 50-meter-tall rendition of the party’s logo — a hammer, sickle and writing brush — sits a street photographer.

A handmade sign displays her price list and sample photos, mostly of groups of North Korean visitors, with the monument as background.

The photographer is one of countless sidewalk entrepreneurs – – most of them selling food and drink — who have set up shop in North Korea since 2002. Before that, they would have been hauled off to re-education camps for profiteering. In the late 1990s, North Korea’s Civil Law Dictionary described merchants as a class to be eradicated because they “buy goods from producers at a low price and sell them to consumers at a high price by way of fraud, deceit and spoils.”

Since then, the party newspaper, Rodong Shinmun, has quoted Kim Jong Il, who’s held supreme power since the 1994 death of his father, Kim Il Sung, as favoring profits under socialist economic management.

North Korea, one of the world’s last Stalinist regimes, has gradually begun permitting commerce. On a four-day visit to Pyongyang, the capital, in October — arranged and scripted by the government — a group of 17 Western journalists got a glimpse of the changes. Clean, new restaurants were packed with paying customers while the streets — almost empty in 1979 and only lightly traveled in ’89 and ’92 — bustled with bicycles, motorbikes and Japanese sedans.

Casino Pyongyang

In the state-owned Yanggakdo Hotel on an island in the Taedong River, a mostly Chinese clientele played slot machines, cards or roulette at the Casino Pyongyang. Since 1998, Macau billionaire Stanley Ho, through his Sociedade de Turismo e Diversoes de Macau SARL, has invested $30 million in the casino, whose staff is also Chinese.

Now some investors from farther afield are joining pioneering Chinese and South Koreans in plunging into a country once so isolated it was known as the Hermit Kingdom. In September, Anglo- Sino Capital Partners, a London-based fund manager, said it had formed the Chosun Development & Investment Fund, which plans to raise $50 million for investments in North Korea.

“It’s the last virgin economy,” says Colin McAskill, 65, a director of Anglo-Sino and chairman of Koryo Asia Ltd., which is investment adviser to the new fund.

Natural Resources

Besides recent changes in the economic system, a 99 percent literacy rate and a minimum wage for workers in foreign-invested ventures of only $35 a month, McAskill says, he was drawn by North Korea’s rich natural resources — including iron ore, copper, lead, zinc, molybdenum, gold, nickel, manganese, tungsten, anthracite and lignite.

The fund will concentrate on North Korean companies that have been active internationally in the past, with track records as foreign currency earners, says McAskill.

He negotiated on behalf of North Korea with foreign bank creditors in 1987, when the country was unable to repay some $900 million in balance-of-payment loans that had enabled the regime in the 1970s to purchase Western industrial technology — Swiss watch-making machinery, for example — as well as such non-capital goods as 1,000 Volvo sedans from Sweden.

Oil Potential

The country’s petroleum potential lured Dublin-based Aminex Plc and its Korea-focused subsidiary, Korex Ltd., which in August announced the signing of a nine-year production-sharing agreement to explore and develop 66,000 square kilometers (25,000 square miles) of North Korean territory. The agreement covers areas in the Yellow Sea’s West Korea Bay and in the Sea of Japan as well as onshore.

While North Korea lacks proven petroleum reserves, according to the U.S. Energy Information Agency, the West Korea Bay in particular may contain hydrocarbon reserves, as it’s considered to be a geological extension of China’s oil-rich Bohai Bay.

More foreign investment may come, says Tony Michell, a Seoul- based consultant on North Korea. Michell, a 58-year-old Briton, says he has recently shepherded 20 senior managers of international companies, representing seven nationalities, to Pyongyang.

“They’re big players,” says Michell, declining to identify his clients by name or company. “They’re looking at everything, from services to manufacturing. They want to get the measure of the North Koreans and be ready if the six-party talks succeed.”

Six-Party Talks

The so-called six-party talks — between North Korea and China, Japan, Russia, South Korea and the U.S. — are aimed at ending the country’s pursuit of nuclear weapons. In September, the six countries agreed on a statement of principles to govern further talks. It called for a nuclear-free Korean peninsula, a peace treaty and economic cooperation in energy, trade and investment.

Seoul-based Hyundai Research Institute, an affiliate of the Hyundai Group, projected in September that a successful outcome to the talks would be worth as much as $55 billion to the economy in the North — and more than twice that in the South.

Optimism about the economy has boosted the prices of defaulted North Korean debt originally owed to hundreds of creditors, mostly European banks, which in the 1970s began meeting as a London-based ad hoc group to discuss restructuring options. In the 1990s, that so-called London Club turned a portion of the debt into Euroclearable certificates, securities that were denominated in Swiss francs and German marks.

The certificates are trading at about 20-21 percent of face value, up from 12 percent in 2003, according to London-based Exotix Ltd., a unit of Icap Plc, one of a few financial firms that make an over-the-counter market in them.

Excessive Optimism

The debt’s price has risen in the past on excessive optimism about the country’s future. In early 1998, the debt was trading at nearly 60 percent of face value amid rumors that North Korea would collapse imminently and be absorbed by wealthy South Korea, which would then make good on the entire outstanding debt.

That had not happened by the time of the crash later that year in global emerging-market securities, when the North Korean debt price sank to about 25 percent of face value.

Exotix estimates that North Korea owes the equivalent of some $1.6 billion in principal and interest to banks out of a total $14 billion in principal and interest owed globally to mainly communist and formerly communist countries.

Although a cease-fire was declared in 1953 in the war between North Korea and China on one side and the United Nations — under whose flag the Americans, South Koreans and others had fought — on the other side, no peace treaty has ever been signed.

The U.S. maintains sanctions under the Trading with the Enemy Act that restrict trade and financial transactions with North Korea — and apply to Americans and permanent residents of the U.S. and to branches, subsidiaries and controlled affiliates of U.S. organizations throughout the world.

China, Russia

North Korea’s flirtations with capitalism are belated compared with those of China and the former Soviet Union, which began opening their economies in the 1970s.

North Korea did pass a law legalizing foreign investment in 1984. The law, which permitted equity joint ventures between state enterprises and foreigners, attracted only $150 million in investment during the following decade, largely because investors were put off by the country’s poor roads, railroads, power systems and phone networks and by official interference in joint ventures’ recruitment, dismissal and compensation of workers, according to a 2000 thesis by Pilho Park, a postgraduate student at the University of Wisconsin Law School in Madison.

Vietnam Example

In contrast, Vietnam lured $7.5 billion in investment in the first five years after it opened its economy to foreign capital in 1988, Park wrote.

Following the collapse of European communism in the early 1990s, North Korea opened the Rajin-Sonbong Free Economic and Trade Zone on the northeastern border with China and Russia. A brief flurry of investor interest ensued and then fizzled out when a crisis over the country’s nuclear weapons program took North Korea to the brink of war with the U.S. and South Korea in 1994.

In the mid ’90s, catastrophic floods, combined with the collapse of the global communist system of aid and preferential trade, caused a severe energy shortage that crippled the economy. As much as 70 percent of manufacturing capacity went idle, according to the South Korean central bank.

Also in the mid ’90s, famine killed as many as 2.5 million North Koreans, by the estimate of the U.S. Agency for International Development.

Food Insecurity

Since then, food aid from abroad, an absence of large-scale natural catastrophes and a 2005 harvest that was the biggest in 10 years have kept North Korea from the massive starvation that’s taken place elsewhere, including Niger, says Richard Ragan, North Korea director for the United Nations World Food Program.

Still, “the country faces chronic food insecurity,” Ragan says. “One of the things that happened with the food shortages is that marginal lands became less controlled. You see people trying to farm on some of the most inhospitable plots of land you could imagine.”

In October, steep, unterraced hillsides were plowed outside Pyongyang. The crops can then wash down, rocks and all, during rainstorms, harming water supplies and damaging farmland – fertility.

A second nuclear weapons crisis boiled up in 2002 when the U.S. accused the North of conducting a secret uranium enrichment program — to replace a plutonium program that it had frozen as part of a settlement of the earlier crisis.

Economic Rules

That same year, the regime proceeded with what then Prime Minister Hong Song Nam described as dramatic new economic measures, which helped bring arbitrarily set prices and foreign exchange rates closer to those prevailing on the black market.

The North Korean won consequently dropped to 150 won to the dollar in December 2002 from 2.15 to the dollar a year earlier. The official rate is currently about 170 won, while on the black market, one dollar can bring about 2,000 won.

The government also introduced pay incentives aimed at boosting worker productivity. The system is in operation at enterprises such as the Pyongyang Embroidery Institute, where some 400 women stitch elaborate pictures for framing and sale.

Employees who don’t perform up to expectations aren’t fired; they’re denied raises, says spokeswoman Woo Kum Suk. Unable to live on their minuscule basic salary, equivalent at black market rates to something over a dollar a month, non-performers eventually quit and go elsewhere, Woo says. Good workers can see their salaries raised as much as fivefold.

Consumers

“In my opinion, it’s good to have this system,” she says. “Although the government supplies things to us, sometimes there’s something more we want to buy.”

North Korea has some way to go before many investors rush in. According to a UN report, net investment inflow for 2003 — the most recent year for which statistics are available — was a negative figure: minus $5 million.

Currently the country is constructing a new special economic zone at Kaesong, just north of the South Korean border, where several small companies from the South already employ North Koreans to make clothing, footwear and household goods. Authorities declined to let Western reporters visit it, permitting only a glimpse from a highway bridge a mile away.

Those who are investing are taking a long-term view. Singaporean entrepreneur Richard Savage was looking at least five years into the future in 2001, when he formed a joint venture tree plantation with the Ministry of Foreign Trade. The company, Evergreen Kormax Paulownia Ltd., is 30 percent-owned by the government, which has assigned Savage 20,000 hectares (49,000 acres) on a 50-year lease with an option to extend for 20 more.

Timber Business

Savage, 58, says he, family members, friends and a few other investors have put $3 million into the project so far. Savage says he hopes that by the time the paulownia trees mature — they grow as fast as 7 centimeters (2.85 inches) a day on his farm, and some may be ready for harvesting five years after planting — he’ll be able to sell the wood in a unified Korean market.

When the Northern economy takes off, the first beneficiary will be the building industry, he says. “That’s why I’m in timber,” he says, adding that his fallback plan is to sell the wood to China, Japan and South Korea.

It’s not the first venture in North Korea for Savage, who wears a cowboy hat and whose e-mail moniker is WildRichSavage. In 1994, he introduced North Korean officials to Loxley Pcl, a Thai telecommunications company. In 1995, an affiliate formed for the purpose, Loxley Pacific Co., signed a joint venture agreement with North Korea’s post and telecommunications ministry to create modern telecommunications in the Rajin-Sonbong special economic zone. The venture earns about $1 million a year, Loxley Pacific Chief Financial Officer C.C. Kuei, 56, says.

Mining for Gold

North Korea’s 1992 Foreign Investment Law guaranteed that foreign investors’ shares of profits could be repatriated, a promise that’s now being tested by Kumsan Joint Venture Co., a gold mining concern that’s half owned by a Singapore-led group of Asian investors and half owned by Hungsong Economic Group, a large trading, mining and manufacturing group in Pyongyang that’s controlled by North Korea’s military.

Roger Barrett, a Beijing-based British consultant, has helped arrange financing and technology for Kumsan. Barrett, 50, introduced Kumsan to the foreign investors, whom he declined to identify.

The company used its investment to buy secondhand mining equipment from Australia in 2004 for the venture’s mine 2,000 meters (6,562 feet) above sea level near the city of Hamhung. In the first year the new equipment was used, Barrett says, the mine produced about 100 kilograms (220 pounds) of gold, half of which the foreign investors took out of the country. He says doing business with North Koreans has proved to be absolutely normal. “It’s working very well,” he says.

Foreign-Run Bank

The business environment in North Korea is surprisingly welcoming, says Nigel Cowie, 43, a former HSBC Holdings Plc banker who was hired a decade ago by Peregrine Investment Holdings Ltd. to start North Korea’s only foreign-run bank.

When Peregrine collapsed in 1998, Cowie and the North Korean joint venture partner kept the local unit operating. He and three other investors bought Peregrine’s 70 percent stake in it from the firm’s liquidators in 2000. Cowie, who’s general manager of what’s now called Daedong Credit Bank, says the bank has about $10 million in assets and has only foreigners as customers, mostly Chinese, Japanese and Western individuals and institutions. Only North Korean-owned banks can do business with state enterprises and North Korean individuals.

Better Living Conditions

Living conditions for expatriates have improved significantly in the past three or four years, Cowie says over a meal of Korean barbecue in the capital’s Koryo Hotel. “For me, personally, it’s things like creature comforts, more shops, Internet, e-mail,” he says. While the Internet is available to foreigners, it is forbidden to most North Koreans.

Cowie says his biggest challenge at the bank comes from outside North Korea. In September, the U.S. Treasury Department barred U.S. financial institutions from dealing with a Macau bank, Banco Delta Asia, that it said had been “a willing pawn” in corrupt North Korean activities and represented a risk for money laundering and other financial crimes.

The bank and North Korea both denied the charges, but the Macau government took over the bank and announced it would provide no services to North Korea in the future. Cowie says the action tied up a big chunk of Daedong Credit Bank’s customers’ assets because Banco Delta Asia had been a main correspondent bank for North Korean banks.

The Treasury Department in October broadened its dragnet by ordering a freeze of the assets, wherever in the world the U.S. could assert its jurisdiction, of eight North Korean companies it suspected of involvement in proliferating weapons of mass destruction.

`WMD Trafficking’

The department explained its action in an Oct. 21 statement on its Web site: “The designations announced today are part of the ongoing interagency effort by the United States Government to combat WMD trafficking by blocking the property of entities and individuals that engage in proliferation activities and their support networks.”

North Korea sought to connect the Treasury actions to Washington’s position in the six-party talks. The country’s Korean Central News Agency, using the acronym for the Democratic People’s Republic of Korea, said on Dec. 2 that “lifting the financial sanctions against the DPRK is essential for creating an atmosphere for implementing the joint statement and a prerequisite to the progress of the six-party talks.”

Assistant Secretary of State Christopher Hill, the chief U.S. envoy to the talks, had said in a Nov. 11 press conference that the asset freeze wasn’t directly related to the talks.

Money Laundering Banned

Cowie says he doubts the U.S. action was intended to harm Daedong, which had already issued a manual prohibiting money laundering. He says he fears such U.S. actions could damp investor enthusiasm for North Korea. “It can cause the people doing legitimate business to just give up,” he says.

Cowie isn’t packing up to leave, though. Neither is Felix Abt, a Swiss native who heads a new European Business Association in Pyongyang. “I am very busy with visiting foreign business delegations,” Abt, 50, says. “Take it as a sign that the economy is developing and that more foreign business activities are under way.”

Outsiders’ investment on capitalism’s farthest frontier is gradually bringing benefits to North Koreans, too, says Savage, the tree farmer. “I can’t convert the whole country, but for the people who work for me, I’m giving them a better standard of living,” he says. “Slowly, people will prefer not to work for the government.”

If Savage and his fellow pioneers have their way, it’s only a matter of time before capitalism takes root in North Korea.

FDI Magazine
Stephen Timewell
12/12/2005

On my journey to Pyongyang a Beijing receptionist remarked that the Democratic People’s Republic of Korea (DPRK) is very much like China was 25 years ago. And as the motorcade of China’s president Hu Jintao passed thousands of flower-waving North Koreans on his visit to the world’s most secretive and politically isolated country at the end of October, he may well have agreed.

Visiting Pyongyang is like going back decades in a time machine, to a land with no advertising, no Nokia, Microsoft or McDonald’s billboards and almost no cars. Impressive grand avenues and massive public monuments dominate the landscape but there is no new construction or shops.

The streets are scrubbed clean by hand and are full of hundreds of orderly people wearing their ‘Great Leader’ badges and walking everywhere. Curiously, bicycles are discouraged because of bad accidents and the government encourages power walking for good health, or so I am told. In a country said to spend 30% of its GDP on defence, there is no visual military presence (or overt police presence) in the capital at all.

The ‘traffic ladies’ standing at major intersections are a welcome replacement for traffic lights but there are precious few cars to direct.

Questions greatly outnumber answers in this capital where visitors are duly dazzled by the spectacular grand mass gymnastics and artistic performance (called Arirang) by almost 70,000 children in the massive 150,000-seat May Day Stadium. But visitors are also aware of serious food shortages and cannot ignore the capital’s tallest building, a magnificent 105-floor pyramid tower with a crane on top, left unfinished many years ago, I was informed, due to financial problems.

Winds of change

Whether the DPRK is seen as the last Stalinist communist state or as a Confucian nationalist monarchy or even, as it describes itself, as a “powerful socialist nation”, visitors can feel the winds of change, particularly on the economic front. For more than 50 years the iconic stature of the late ‘Great Leader’ Kim Il Sung and that of his successor son Kim Jong Il have dominated the political landscape; the question going forward is how the country’s dire economic circumstances can be improved and whether the regime has the capability to create the new structures needed.

Pyongyang was playing host not only to Mr Hu but also to an increasing number of foreign delegations and journalists, all keen to understand the trends taking place in probably the last country to have massive pictures of Marx and Lenin hanging outside its Ministry of Trade. For many, however, the current focus is progress in the Six-Party Talks on the nuclear weapons programmes of the DPRK.

In the fourth round of talks in September between the two Koreas, China, Japan, Russia and the US a landmark agreement appeared to have been reached. “All six parties emphasised that to realise the inspectable non-nuclearisation of the Korean Peninsula is the target of the Six-Party Talks,” a joint statement said. “The DPRK promised to drop all nuclear weapons and current nuclear programmes and to get back to the non-proliferation treaty as soon as possible and to accept inspections from the International Atomic Energy Agency.”

At the time of going to press in November a fifth round of talks was expected to move a final agreement closer but detailed negotiations over implementation of the above agreement were not expected to be easy or to be concluded quickly. The DPRK, unsurprisingly, wants some payback, be it light-water reactors from the US or other economic incentives.

The core issue is that the DPRK’s publicly acknowledged plutonium programme, believed to provide enough radioactive material for about six bombs, is probably also the country’s key card in trying to rebuild the economy. Kim Jong Il needs to gain maximum advantage from giving up his nuclear threat, but even then, what does his economy have to offer?

Information hollow

For a financial journalist the DPRK represents a serious challenge. Understanding the economy and the banking sector of a country is never easy, but when no data is published by the government or the central bank it becomes significantly more difficult. I knew information was scarce but believed that the two very agreeable government minders, assigned to monitor my every move in my four-day visit, would be able to help me extract a simple list of banks operating in the country. No such luck. Although my visit was welcomed, the central bank (which acts as both the issuing bank and as a fully operational commercial bank in the traditional socialist model) failed to provide the list (or anything else), despite numerous requests.

Although the consensus after several interviews was that around 20 banks of various types exist, I can only vouch for the handful listed here. Clearly the Foreign Trade Bank (FTB) represents a pivotal bank in the financial system and Ko Chol Man, director of the FTB, was keen to explain the peculiarities of the DPRK banking system. “The domestic and foreign exchange settlement systems are completely separate. The central bank deals with the domestic market and money issuance and it also has a commercial banking role; the FTB has complete control over foreign exchange matters and trade and also holds the country’s foreign exchange reserves.”

Unlike other banking systems, the FTB in the DPRK acts as a clearing house for the foreign exchange activities of the banks in the country. It does not report to the central bank but, like all banks, reports to the State Fiscal and Financial Committee (SFFC), the overall banking regulator.

Mr Ko was pleased to note that the FTB had around 500 correspondent banks worldwide and, along with its 600 staff (including 11 branches) in North Korea, had six representative offices outside the country (including offices in Austria, Russia and China) and planned to establish a UK representative office in London. However, when asked for details of FTB’s banking activities he replied bluntly that no banking institution had published its figures in terms of activities or balance sheet. “We cannot give figures about the size of our assets because it is a regulation of the state. If the situation becomes better we can make them public but up to now it is impossible.”

Economic estimates

Despite the absence of official economic and banking data, various estimates help make the picture a little less murky. A recent Standard Chartered Bank report places North Korea’s nominal GDP at the end of 2004 at $22bn or $957 in GDP per capita terms for the country’s 23 million population; by comparison, South Korea’s nominal GDP is put at $680bn or $14,167 per capita for its 48 million population. While the unification of the two Koreas is seen as an important political objective, especially in Pyongyang, the startling economic gap between the two states could mean that the North becomes a huge burden on the South, and Seoul well recognises the economic problems that emerged from the reunification of Germany in the 1990s.

Meanwhile, Jong Msong Pil, of the Institute of Economy at the Academy of Social Science, explained how the economy had declined dramatically from a GDP per capita of $2500 in the mid-1980s to $480 per capita in 2000.

“The big drop was caused by the disappearance of the socialist market worldwide in the early 1990s; the collapse of our socialist barter trade system led to the failure of many enterprises and a decline in living standards,” he said.

Dr Jong noted that, following the hard times of the mid-1990s, the first target of the national economy has been self-reliance. He added that no economic data had been published since 2000. He believed, however, that 10% economic growth occurred in 2004 and, responding to reports from the World Food Programme (WFP) that a third of the population were malnourished, he said the food situation was improving. “In our country, all people have a job so for this reason no one has died of starvation or hunger. Our country is a socialist planned economy so the government takes care of people’s living.”

Acknowledging shortages in the past, Dr Jong said that in October the government had normalised the public food distribution system, which indicated the government was now supplying sufficient food.

Is the DPRK’s food crisis over? Driving around Pyongyang’s spacious avenues (with two minders) there was no visual evidence of malnutrition – but the capital is likely to be much better served than elsewhere. A supermarket was shown but the goods were only available for foreign currency, hardly food for the masses. Cha Yong Sik, deputy director general at the Ministry of Foreign Trade, said the government had not imported food on a commercial basis in 2005, unlike previous years, but neighbouring countries are still providing significant food aid. Richard Ragan, country director of the WFP, said food production in 2005 was up 10%, with cereals up 6.6%. But while the food situation may have improved, the DPRK is said to be still dependent on food aid.

Trade predictions

So what are the DPRK’s prospects? Much depends on the outcome of the nuclear negotiations but estimates from the Seoul-based Korea Trade-Investment Promotion Agency (KOTRA) say the DPRK’s trade volume in 2005 is expected to pass $3bn for the first time since the fall of the Soviet Union with the figure likely to reach $4bn if inter-Korean trade is included. Trade with China, the DPRK’s largest trading partner, grew by more than 40% in the first half of 2005, indicating Pyongyang’s growing dependency on Beijing.

Upbeat on trade prospects, Mr Cha explained that the recently opened Tae-an Friendship Glass Factory, built with a $32m donation from the Chinese government, would export 40% of its 300-ton capacity, mainly to Siberia. Also Pyongyang’s first autumn international trade exhibition in October included companies from six European countries, the focus being on the country’s mineral potential rather than its manufacturing abilities, which are a long way off.

As for banks, the group of up to 15 joint venture banks are helping to finance the country’s 150 or so international companies. But do not expect miracles. The latest, Koryo Global Credit Bank, set up in June, is a joint venture between the UK-based Global Group, headed by Hong Kong businessman Johnny Hon, with 70%, and the state-owned Koryo Bank with 30%. Established with a paid-up capital of e10m, KGC Bank is ambitious in its plans to engage the DPRK in trade and commercial relations with the rest of the world, especially Asia, the Middle East and Europe.

KGCB’s first correspondent banking relationship in Europe is with Germany’s Helababank. The bank, the first product of cooperation in the finance field between the DPRK and the UK, has a staff of five and is also interested in investing in property. It was also able to produce, at the instigation of US authorities, a comprehensive anti-money laundering file.

Another local venture is North East Asia Bank (NEAB), which was set up by ING Group in 1995 but is now wholly owned by the Korean BOHOM Group. Amazingly, Kim Hyon Il, NEAB’s president, produced a balance sheet showing total assets of e79m at the end of 2004 and a paid-up capital of e25m. He also showed me the bank’s newest product, a chip-based cash/debit card, the first in the DPRK. The card demonstrates perhaps that the country is slowly joining the real world – but with only 100 issued and only 13 outlets available, the service has a long way to go.

Political effects
 
At Daedong Credit Bank, chief executive Nigel Cowie explained how international politics can have a dramatic impact on banking even in the isolated DPRK. In September, just before the conclusion of the fourth round of the Six-Party Talks, the US Treasury accused Banco Delta Asia (BDA), a Macao-based bank, of aiding the DPRK in a series of ‘money laundering’ cases. The Wall Street Journal had said the Macao crackdown was Washington’s method of cutting off Pyongyang’s financial sources for its nuclear weapons programme.

Mr Cowie, a former HSBC banker, explained that all DPRK banks had accounts with BDA for the purposes of remitting funds and, as a result, the accounts were suspended pending an inquiry in mid-November. While Stanley Au, chairman of BDA’s parent, denied the US allegations and BDA’s involvement in any illegal business relations with DPRK banks, the damage is done. “It affects our customers because it affects people’s ability to remit money to and from the country. I imagine that this will cause people doing legitimate business to give up,” says Mr Cowie.

The nuclear negotiations remain critical to the country’s future and the Chinese, in particular, want them to succeed. But that is just a start. There is evidence that the DPRK is opening up and changing with reports that there are 300 open markets operating across the country, 30 in Pyongyang. But whether the DPRK follows the China model of 25 years ago and can restructure its ‘powerful socialist nation’ doctrine remains doubtful under the current leadership.

Nautilus Institute
Andrei Lankov
12/1/2005

The recent news out of North Korea leaves no room for doubt. After a decade of grudgingly allowing small-scale free markets, Kim Jong Il’s regime is seeking to reimpose total control. Ironically this turning back of the clock is being aided by the “no strings attached” aid policies of two countries, China and South Korea, which claim to be trying to encourage reforms.

From early October, all trade in grain has been forbidden in the small private markets that mushroomed across North Korea when the state-run food distribution system largely collapsed during the famine of the 1990s. North Koreans are now expected to rely on a revived public distribution system for supplies of grain. Special teams of officials have fanned out to check farming households for any “excessive” supplies of grain they might try to sell in the private markets, and ensure they are left only with their officially allowed ration of 700 grams a day.

Internal travel controls are also being tightened. During the famine, authorities turned a blind eye to violations of the regime’s tough restrictions on freedom of movement, as starving North Koreans crisscrossed the country in search of food. Now these are being enforced once again, with North Koreans required to obtain a travel permit from police before they can travel elsewhere in the country.

Pyongyang’s moves in this direction should not come as a surprise. Allowing even a minimal degree of private enterprise reduces the regime’s absolute control over its citizens — especially if they are no longer dependent on the state for their food — and provides firsthand evidence of the existence of a more successful economic system. The Kim regime has seen how economic reform preceded the collapse of Communist regimes across Eastern Europe. It’s no coincidence that one of the questions most commonly heard in private conversations with members of the Pyongyang elite these days is about the fate of Communist cadres in the former East Germany. To avoid reforms is the surest survival strategy for Pyongyang’s ruling elite.

Throughout the past decade, the regime had no choice but to tolerate some degree of private economic activity, because of the collapse of its state-distribution system. But now that the North Korean economy has bottomed out and the famine appears to be over, largely due to generous aid shipments from the outside world, the Kim regime is in a position to get rid of changes that it never wanted in the first place. In addition to trying to curb the activities of private markets, it’s ordered most of the representatives of the international aid agencies that it reluctantly allowed into the country during the famine to leave by the end of the year.

The Kim regime can afford to act in this way because it knows that food aid from its two key patrons, South Korea and China, will keep flowing come what may. These now exceed shipments from elsewhere in the world. According to a recent report to the U.S. Congress, North Korea received 350,000 tons of food aid from South Korea and China in 2004 — compared with 325,000 tons from the World Food Program. Seoul also provides the North with much needed fertilizer, while China takes care of most of its energy needs.

China and, especially, South Korea claim to be supplying aid as part of a strategy of encouraging North Korea to embrace economic reform. That’s the ostensible aim of Seoul’s “sunshine policy” of one-sided concessions to the North, while Chinese leaders have shown visiting North Korean leaders around Shanghai and Shenzhen in an effort to encourage it to follow the same path. But, far from encouraging reform, North Korea’s recent actions show that it can take advantage of such unconditional aid to move in the opposition direction.

While Western countries insist on their aid being monitored by international relief agencies to try to prevent its diversion to the military, South Korea and China take a much more forgiving stance. Beijing wants stability on its borders, and would not be happy to see another nominally Communist regime collapsing. South Korea also wants to avoid the collapse of the Kim regime, since it would then have to foot the bill for an expensive and socially ruinous German-style unification. This means that both governments are ready to ship aid without asking too many awkward questions or demanding that it be closely monitored. Although ostensibly encouraging economic reform in North Korea, in reality both China and South Korea share the same short-term goal of preserving the status quo. They tacitly understand that means the regime must be able to continue to rely on its police and elite army units, and so needs to keep them well fed. That means turning a blind eye to the diversion of aid to the military, police and other members of the Pyongyang elite, even at the expense of the long-suffering North Korean people.

In the long run, this creates a paradox. Unless Seoul and Beijing are willing to foot the ever growing bills from Pyongyang indefinitely, they need to promote reforms there. However the North Korean regime has shown it has no interest in implementing reforms except when it is the only way to survive.

That creates an uneasy dilemma, which is shared by other foreign aid donors to North Korea. Stopping all aid could lead to renewed famine, especially in those areas of the country closed to foreigners. But excessive and unconditional aid is likely to halt all reforms, since the Pyongyang government would simply reverse to its old policies, using foreign aid to pay for the system’s inherent inefficiencies (and perhaps for a bit of luxury for Kim and his cronies). And recent events have clearly demonstrated have how counterproductive showering North Korea with aid can be.

Nautilus Institute
David L. Asher
11/15/2005

I am very pleased to be invited back to the Wilson Center to speak today. I enjoyed my time here this summer and want to thank my colleagues for the chance to be affiliated with the Center, which I consider the finest organization of its kind in Washington. I also wish to thank my former boss, Assistant Secretary Jim Kelly and the many members of our inter-agency team for kindly attending today. In particular, I want you to know of the extraordinary work that our friends and colleagues here from the United States Secret Service have done recently to safeguard our nation and our currency from a determined adversary.

I left the State Department in July and I want to be very clear that my remarks today are personal in nature. They in no way should be interpreted as representing the view of the US government, the Department of State or the Department of Defense. They also are drawn strictly from unclassified sources (the vast amount of information now in the public domain is indicative of the scale of the problem of DPRK criminality).

Let me make clear, I am a believer in the Six Party Talks. I applaud the efforts of my former colleagues, Chris Hill, Joe Detrani, and Jim Foster to effect positive diplomatic movement via direct dialog and clearly demonstrate to all the parties seated at the big table within the Diaoyutai State Guesthouse that the US is sincerely willing to join the international community in engaging North Korea to facilitate its denuclearization, its economic development, and its opening to the outside world. At the same time, given this objective, there should be no further room for tolerating the unacceptable and in many ways outrageous criminal and proliferation activities that the North Koreans continue to engage in.

Allow me to begin my remarks by laying out the major aspects of North Korean trans-national criminal activity. I will then look at the specific question of how the DPRK’s growing ties to Organized Crime groups and illicit shipping networks could be used to facilitate WMD shipments. I’ll propose a possible way to reduce this risk. I will conclude by frankly commenting on the nature of state directed criminality in the DPRK and its implications for international law and the DPRK’s status in the international community and the United Nations.

My research topic this summer at the Wilson Center was on the rise and fall of “criminal states” – government’s whose leaders had become intimately involved with trans-national criminal activity. I compared North Korea under Kim Jong Il with Serbia under Milosevic, Romania under Ceausescu, and Panama under Noriega. I won’t get into the details of this comparative research now but, suffice to say, the scale and scope of the other cases pale in comparison with present-day North Korea.

The rise of the criminal state in North Korea is no secret. It has occurred in full view of foreign governments and with increasing visibility to the world media. Over the last three decades agents, officers, and business affiliates of the DPRK have been implicated in hundreds of public incidents of crime around the globe. Incidences of illicit activity have occurred in every continent and almost every DPRK Embassy in the world has been involved at one time or another. This should be no surprise. North Korea is perhaps the only country in the world whose embassies and overseas personnel are expected to contribute income to the “Party Center,” not rely on central government funds for their operations. Such repeated illicit actions from diplomatic premises amount to a serial violation of both articles 31 and 41 of the Vienna conventions on Diplomatic Relations, which respectively convey that A. commercial, and most certainly, criminal activities for profit shall not be conducted by accredited diplomats or via accredited facilities and B. mandate that officials posted abroad must obey the laws of the nation to which they are posted. The DPRK routinely pays no attention to either critical provision of the Vienna conventions.

I am frequently asked “how much is this stuff going on?” Although it is hard to pin down the exact scale of the illicit activity we can make a rough guess. In 2003 the DPRK ran a trade deficit of at least $835 million and that if more broadly measured to exclude concessionary trade with the ROK was more like $1.2 billion. Even making a very bold estimate for informal remittances and under the table payments for that year, the DPRK probably ran a current account deficit of at least $500 million. Moreover, North Korea’s accumulated trade deficit with the ROK and China alone since 1990 is over $10 billion. North Korea has not been able to borrow on international markets since the late 1970s and has at least $12 billion in unrepaid debt principal outstanding. Yet, until recently – at least – it has managed to avoid self-induced hyper-inflation (which should have occurred given the need to reconcile internal and external monetary accounts, even in a communist country). Instead, the street stalls in Pyongyang and other North Korean cities seem to be awash in foreign made cloths, food, and TVs and the quality of life of the elite seems to have improved. What’s apparently filling the gap and accounting for the apparent improvements to the standard of living for the elite? The short answer as I see it: Crime. And if I am right, then the criminal sector may account for as much as 35-40% of DPRK exports and a much larger percentage of its total cash earnings (conventional trade profit margins are low but the margin on illegal businesses is extremely high, frequently over 500%).

Whatever the precise size of the criminal surplus, all analysts and law enforcement authorities agree that overseas illicit and weapons trading activities have become increasingly important sources of foreign exchange for the DPRK. These earnings have provided support to North Korea’s “military-first” economy and contributed to Pyongyang’s ability to resist demands from the international community for an end to its nuclear weapons program. They also apparently have persuaded the Kim Jong II regime it can affordably maintain its political isolation and resist the imperative for sweeping economic and social reforms that all other communist states have had to engage in. Given that periodic exposure of illegal dealings by North Korean officials overseas in the past has not resulted in serious or lasting consequences, Pyongyang may believe that an open door for global criminality exists.

Let’s review the scale and scope of the North Korean “soprano state.” As is well known the North Korean government is involved in a wide range of illicit businesses in partnership with organized crime groups or unilaterally. These include:

1. Production and overseas distribution of narcotics, in particular heroin and methamphetamines:

DPRK Narco trafficking continues as a major income generator, although less prominently perhaps than before. China continues to be the major market for North Korean drugs and the situation became so bad that in March of last year the Vice Minister of the MPS called a highly unusual “press conference” to announce his determination to cut into DPRK drug rings in Jilin province, on the border with North Korea (which some Chinese law enforcement officials have stated is “out of control”). Japan probably still comes in second. From 1998-2002 Japanese police interdicted nearly 1500 kg of meth that in six separate prosecuted cases was shown to have originated in the DPRK. This amounts to thirty-five percent of all methamphetamine seizures in Japan in that period and had a wholesale value of over $75 million and a street value of as much as $300 million. Given the chemical profile for DPRK produced meth (essentially of extremely high purity) several Japanese authorities I spoke with the week before last believe that a fairly large percentage of the meth coming in from Northern China today is consistent with DPRK origin. As elsewhere, in Japan to mask their fingerprints the North Koreans are going through triads, snakeheads, and other indirect channels. This has been less true with Heroin where North Koreans continue to be observed selling the drugs. The Australian seizure of 125 kg of Heroin worth $150 million off the Pong Su – a Worker’s Party linked vessel and with a KWP secretary on board – in my mind was hardly a random or isolated incident (it is not surprising given that the North Koreans had established an Embassy in Canberra the year before that one would assume needed to produce income for the center – it was Pyongyang’s way of saying “thanks very much”).

2. Production and international distribution of counterfeit currency, in particular the US dollar, as well as counterfeiting or illegally reproducing and selling numerous other items, in particular counterfeit cigarettes and pharmaceuticals.

Under International Law, counterfeiting another nation’s currency is an act of causus belli, an act of economic war. No other government has engaged in this act against another government since the Nazis under Hitler. North Korea has been counterfeiting the dollar and other currencies of importance the entire time it has been on the international engagement bandwagon. What does this say about the regime’s intentions?

As the recent DOJ indictment of Sean Garland and other members of the Official IRA for their partnership in the criminal distribution of counterfeit US currency reads: “Beginning in or about 1989, and continuing throughout the period of this Indictment, a type of high-quality counterfeit $100 FRNs began to be detected in circulation around the world. Their high quality made it particularly difficult for them to be detected as counterfeit by untrained persons. The United States Secret Service initially designated these counterfeit notes as “C-14342” and they came to be known as “Supernote” or “Superdollar.” Quantities of the Supernote were manufactured in, and under auspices of the government of, the Democratic People’s Republic of Korea (“North Korea”). Individuals, including North Korean nationals acting as ostensible government officials, engaged in the worldwide transportation, delivery, and sale of quantities of Supernotes.”

The Royal Charm and Smoking Dragon investigations that were concluded this summer revealed a willingness to sell millions of dollars in DPRK supernotes into the US by Asian OCs linked to the North Korea government. Whether this was a deliberate act of policy decided in Pyongyang or just business among crooks is hard to tell but it seems unusual that according to the public indictment the cost of the notes was less than 40 cents per dollar, far below the market value associated previously with the counterfeit supernotes, given their ability to be circulated without ready detection by the naked eye. One wonders how such a price could be obtained unless the notes were coming from a very high source inside the country in question.

The relatively sophisticated shipping methods for transporting supernotes uncovered in the FBI-USSS Royal Charm/Smoking Dragon investigations also needs to be given scrutiny, especially given our topic today. The following slides, reproduced from a Taiwanese newspaper article gives you a sense of how they move the notes around, falsely manifesting the cargo as a non-dutiable item (in this case as “toys”), falsifying port of origin information (to indicate a port in Northern China instead of in the DPRK), and cleverly concealing the contraband.

The production of counterfeit cigarettes also appears to be a very large and profitable business for North Korea and one with global reach. Indeed, Counterfeit cigarettes may well be North Korea’s largest containerized export sector with cargoes frequently coming from the ports of Najin and Nampo for shipment via major ports in China and the ROK throughout the world. Phillip Morris International, Lorillard, Japan Tobacco and others have identified numerous factories producing counterfeit cigarettes in North Korea. Affected industry participants have worked assiduously with relevant government authorities around the world to stop this trade. The numbers explain why. A forty foot container of counterfeit cigarettes might cost as little as $70,000 to produce and have a street value of 3-4 million dollars, so it’s not surprising that the North has focused on this business line-with its profits increased if tax stamps are forged (something that has been observed repeatedly of late, costing affected states such as California tens of millions in stamp revenue per year). A 1995 Associated Press article reported the seizure by Taiwan authorities of 20 shipping containers of counterfeit cigarette wrappers destined for North Korea. According to officials of the cigarette company whose label and trademark were being violated, the seized materials may have been used to package cigarettes with a retail value of $1 billion. Increasingly DPRK counterfeit cigarettes, counterfeit pharmaceuticals (especially counterfeit Viagra), and counterfeit currency are being moved in parallel. Royal Charm revealed that weapons, too, potentially even manpads might be run through the same channels. What could be next?

3. Smuggling sanctioned items, including conflict diamonds, rhino horn and ivory, and endangered species, utilizing official diplomatic means

I find this to be one of the most outrageous and unacceptable of the DPRK’s criminal acts, absolutely contravening international law, including the Convention on International Trade in Endangered Species of Wild Fauna and Flora. There are numerous notorious examples to cite. In the early 1980’s, five North Korean diplomats were forced to leave Africa for their attempts to smuggle rhino horns. The horns were transported from Luzaka to Addis Ababa to South Yemen. From there, they traveled to the consulate in Guangzhou, which ran operations in Macau, Zhuhai, and Hong Kong. This kind of activity has apparently not changed. As Stanford researcher, Sheena Chestnut, noted in a recent thesis, in the years since 1996, “at least six North Korean diplomats have been forced to leave Africa after attempts to smuggle elephant tusks and rhinoceros horns.” Ivory seizures directly linked to North Korean officials amounted to 689 kg in Kenya in 1999; 537 kg in Moscow in 1999; and 576 kg in France in 1998. I don’t have more recent data I can share publicly but I don’t think they have given up on the illicit ivory trade.

4. Money laundering for its own account and in partnership with recognized organized crime groups abroad:

The extent to which the DPRK uses banking partners around the world to launder funds has recently gotten a lot of attention in the wake of the Macau based Banco Delta Asia designation under Section 311 of the USA Patriot Act. The Treasury Department’s website paints a pretty clear picture: “One well-known North Korean front company that has been a client of BDA for over a decade has conducted numerous illegal activities, including distributing counterfeit currency and smuggling counterfeit tobacco products. In addition, the front company has also long been suspected of being involved in international drug trafficking. Moreover, Banco Delta Asia facilitated several multi-million dollar wire transfers connected with alleged criminal activity on behalf of another North Korean front company.”

5. Weapons smuggling and trading in WMD

Even while its customer base diminishes, North Korea defiantly remains in the business of selling MTCR class missiles and base technologies. It also continues to field more advanced systems domestically that could be exported. Logically speaking, as its stockpile of WMD grows so could its willingness to export technologies, systems, and even materials. Business and ideology conveniently mix in the minds of North Koreans, it seems, as they calculate where, when, and how to sell weapons and weapons systems.

Moreover, in the face of increased surveillance of DPRK flagged vessels, the threat of using conventional shipping means to move cargoes increases as does the incentive to use organized crime channels.

There are several thousand containers each year coming out of North Korea from its two main container cargo ports: Najin on the east coast and Nampo on the west coast. To get into the international maritime transport system, they have to go through friendly ports, typically in China, the ROK, and Japan. Virtually none of these containers in China is subject to inspection and few in the ROK. Japanese customs has made a bigger effort but it remains insufficient in regard to cargoes destined for non Japanese ports.

As we learned from the investigations concluded this summer, containers of counterfeit cigarettes, counterfeit currency, weapons, and other illicit items apparently produced in the DPRK or linked to a distribution chain it has ready access to have managed to make their way into the US. So could North Korean WMD if we don’t create a system to better scrutinize cargoes and enhance Maritime Domain Awareness to protect our SLOCs.

Unfortunately, neither the PSI no the CSI are attuned to addressing these threats. The Container Security Initiative is a worthy effort to move US customs outward, inspecting select cargoes destined for US waters overseas before they embark in our direction. I am impressed by the work being done by US Customs and ICE officers overseas to look into suspect cargoes and the dedication of personnel at the National Tracking center to identify ships and cargoes that may have not been covered by the CSI or fallen through the loop. Nonetheless, the CSI has no application to containers destined for non-US ports and, moreover, it is only operating in a small number of foreign venues. What happens to the majority of containers coming here or going elsewhere? Nothing.

Moreover, the hallowed Proliferation Security Initiative unfortunately remains much more talk that action. I support the initiative but it is not sufficient and does not substitute for a dedicated DPRK counter-proliferation policy. It is nice to see countries getting together to agree to intercept shipments but it is another to engage in such interdictions. There has not been one single PSI interdiction of a DPRK flagged vessel that I am aware of. Does this mean they have stopped sailing? A quick look at the “Lloyd’s List” database reveals this to not be true with many notorious North Korean vessels like the Sosang, which was interdicted shipping missiles to Yemen in December 2002 (before the PSI existed), still plying the high seas. What are these ships carrying? Moreover, I find the implicit premise that interdiction alone is adequate for stopping proliferation unsettling. Stopping a weapons shipment on the high seas is like stopping a drug shipment under dark of night-easier said than done. The odds are not good, especially when you face an adversary with access to near state of the art communications, excellent denial and deception, diplomatic immunities, and friendly criminal partners to facilitate its activities.

More decisive action is required, well beyond the PSI’s current scope. The AQ Khan network was brought down by a network disruption strategy that utilized all aspects of national power. Such a strategy may need to be mounted soon to stop a determined North Korea engaged in the weapons trading business.

Fortunately, there are some things in the area of peaceful international cooperation we can do to minimize the chance North Korean contraband, missiles, or WMD will get into the international distribution system. I propose that a special Container Security Initiative be created and applied to the DPRK, beginning in China and the ROK. Specifically, all containerized cargo out of North Korea should be mandated for inspection at the first international port of conveyance. Legitimate trade would be allowed to pass but illicit cargoes would be stopped. The US could not accept containers from ports that do not wish to join this special inspection regime. Such a regime would dramatically reduce the risk of weapons proliferation and cut into crime. Were all ships coming from the DPRK, whether bearing containers or not, subject to first order inspection the system would be even more effective. Given that DPRK trade represents a drop in the bucket for even major Chinese and Koreans ports, instituting such a regime should not be particularly onerous.

Down the road a more elegant solution is possible, whereby only smart containers can gain access to the international shipping system. The President recently announced a new policy on Maritime Domain Awareness (MDA). As Vice Admiral John Morgan has recently written, “MDA is the collection, fusion and dissemination of enormous quantities of data – intelligence and information to form a common operating picture (COP) – a web of integrated information which will be fully distributed among users with access to data that is appropriately classified.” Through the COP, specialists should eventually be able to monitor vessels, people, cargo and designated missions, areas of interest within the global maritime environment, access all relevant databases, and collect, analyze and disseminate relevant information.

This goal of Maritime Domain Awareness may sound overambitious, if not down right impossible. However, within the next five years, we likely will see the global deployment of such “smart-containers.” These sophisticated containers will be equipped with RFID tags that can not only broadcast the precise geo-location of the container but also be linked to relational databases that reveal detailed information on the container’s cargo: where it was loaded and by whom, when and where it was produced, and a host of other important information. IBM and Maersk have in fact just announced a pilot project to validate this smart container concept and allow the data to be trackable via an open information architecture.

In effect, driven by industry requirements even more than government regulations, by the end of the decade we can look forward to the development of a “world wide web of things” – the physical data tracking equivalent of the internet. Such a web promises to dramatically enhance supply chain management for multinationals, expedite and safeguard trade, and reduce counterfeiting. This is not science fiction: companies like Walmart have already demanded that their suppliers insert RFID tags into products with the goal of eventually being able to track in near real-time the status of virtually every asset in the company’s supply chain domestically and – relatively soon – globally.

Countries, ports, or companies not subscribing to smart container standards would be subject to automatic inspection or simply not be allowed to engage in international trade with countries participating in the initiative.

Conclusions:

North Korea is the only government in the world today that can be identified as being actively involved in directing crime as a central part of its national economic strategy and foreign policy. As a result, Pyongyang is radically – and perhaps even hopelessly – out of synch with international law and international norms. In essence, North Korea has become a “soprano state” – a government guided by a Worker’s Party leadership whose actions, attitudes, and affiliations increasingly resemble those of an organized crime family more than a normal nation.

North Korea’s serial violation of international laws and agreements begs the question whether it should be allowed normal protections granted to states under the United Nations treaties.

Its reliance on illicit activity for maintaining what my former colleague Bill Newcomb has termed the “palace economy of Kim Jong Il” perhaps makes it very hard for North Korea to abandon such activities and also provides Pyongyang a means to avoid serious engagement with the outside world. Thus, unless and until the North finds itself censured for its involvement in such activities and its illicit finances come under great pressure it may have few incentives to be cooperative and come clean and act normal.

The North must cease its dealings with trans-national organized criminals, its illicit export of weapons, its nuclear reprocessing, its threats to engage in nuclear proliferation, etc. Instead it should accept the extremely reasonable terms the US, with the others parties in the talks, have offered for promoting a positive and peaceful transformation of relations in the context of full denuclearization. If it does then next month’s talks should represent a turning point in the history of our relations with the DPRK. If it does not, as I have shown the evidentiary ground exists for the DPRK’s comprehensive diplomatic isolation and a systematic denial in diplomatic privilege, if not as a pariah state with nuclear weapons but as a criminal state engaged in causus belli acts against the United Nations, its laws, and its principles. I hope Mr. Kim Jong Il makes the right decision.