Kim Jong Un’s Risky Economic Gambit
North Korean leader Kim Jong Un’s newly unveiled economic strategy aims to reconfigure the state’s relationship with private entrepreneurs, increase self-sufficiency and consolidate control over the economy. Since the government has already permitted the private sector to play an important role, however, these three objectives may end up being at cross purposes. As a consequence, the more the government squeezes down, the less it will likely be able to extract.
International economic sanctions have caused North Korea to lose between $4.6 and $8.2 billion, according to a March 2020 report by the United Nations (UN) Panel of Experts. Pyongyang’s ability to deflect pressure depends on whether it can compensate for these lost earnings. North Korea doesn’t publish fiscal accounts, so we don’t know for sure, but the country’s foreign exchange holdings may have shrunk by $1 billion per year since 2017, according to an estimate by the Bank of Korea.
North Korea imports much more than it exports. In 2019, the trade deficit topped $2.7 billion. Cyber attacks and sanctions evasion help to mitigate this (and aren’t captured in Bank of Korea’s figures), but they probably don’t close the gap. This urgent fiscal situation helps explain why a new five-year economic plan (stressing self-sufficiency) took center stage at the Eighth Party Congress in January this year.
However, there is a potential mismatch between the scope of planned projects and the funds available to service them. At the Party Congress, Kim Jong Un called for investment in industries such as chemical production and machine-building. More ambitious objectives were rolled out during a recent plenary meeting, where Jo Yong Wan, secretary of the Central Committee, criticized officials for setting unacceptably low production goals in construction, electricity, consumer goods and fishing.
It will be a challenge to finance these goals within current fiscal constraints, especially since the central government projected a “historically low” budget growth of 0.9 percent for 2021. The markets have become an important source of government revenue: Professor Ruediger Frank has suggested it’s possible that at least one quarter of the state’s budget comes from “the quasi-private economy.” But deteriorating conditions have put pressure on these sources as well.
Under normal conditions, regional governments get a sizable portion of their budget through the management of markets by charging stall fees to vendors. Market fees were reportedly raised at the end of 2019, following updated guidance from the Ministry of Finance. Due to the general economic decline, many traders have had trouble maintaining profitability, with some in North Hamgyong Province selling their stalls at a discount. As a consequence of these worsening conditions, local governments have seen revenues fall. For example, the South Pyongan Province government reported a 50 percent market revenue reduction in the fourth quarter of 2020 compared to 2019, according to the Korea International Trade Association.
Governance problems, such as a lack of transparency, predictable regulations and an independent dispute resolution mechanism, also limit the impact of private investments. Although all levels of the government, from local officials to central party cadres, can absorb financial benefits by welcoming private sector investment, “capital accumulation is limited by the fact that the authorities, the Party and corporation managers extract a considerable share of the gains from marketisation,” according to a report by the Organization for Economic Cooperation and Development (OECD).
For Kim Jong Un, the economy is the key for managing a long and varied list of problems. He has outlined plans to brace against sanctions and pandemic isolation by increasing self-sufficiency and central control and to compensate for lost export revenue by rising intake from domestic sources. But the North Korean economy is a fragile ecosystem. Re-aligning its foundations without acknowledging (and preserving) the market mechanisms that help it function could throw it off-balance. To understand why, it helps to review how the economy has changed over the last few decades.
Liberalization and Retrenchment
North Korea’s economic history is characterized by cycles of liberalization and retrenchment. The government experimented with schemes such as the “Taean Industrial Management System” in the 1960s and the “Complex Industrial System” in the 1980s that used limited, market-based incentives to reduce waste and improve output. But these initiatives were unevenly enforced and eventually petered out. Things changed when a devastating famine in the 1990s prompted the government to reluctantly embrace grassroots marketization. Firms turned to self-supporting management systems.
The National Planning Commission allowed non-strategic factories and enterprises to meet production quotas in values (hard currency) rather than quantities of specific goods. Firms drifted away from their state-appointed missions and maximized profits by offering products and services in which they retained a comparative advantage. Even some party and military-run firms went in this direction, creating a new sphere of economic activity that operates on market prices and is sanctioned but not institutionalized by the government. South Korea’s Ministry of Unification notes in its white paper on North Korea that “…the chasm between the nominal system and its economic realities continues to widen.” In essence, the central planners traded control for productivity, but now Kim Jong Un seems to want to put the genie back in the bottle.
Kim Jong Un inherited an economy in trouble: it averaged -0.2 percent annual GDP growth from 2009 to 2011, when he assumed power. A currency revaluation in 2009 caused people to flock to foreign currency and lose faith in the state banks. Kim began his tenure with a series of economic liberalizations and a promise that the people would no longer need to “tighten their belts.” He started with agricultural reforms that apportioned farmers a larger share of the harvest and allowed the country’s official marketplaces to grow in number, size and significance—there are now over 400 stretching all across the country, including specialty, wholesale and retail markets.
The revision of a business law in 2014 allowed private entrepreneurs to invest in state enterprises. In 2017, a newspaper published by Kim Il Sung University ran an article stating, “Net profits gained by individual corporations are fundamental to the establishment of a powerful economy.” This led some to predict “a shift in [the North’s] economic policies from centralized planning.”
Another positive development was a constitutional change in 2019 that enshrined in law the “Responsible Management System for Socialist Corporations,” which was first launched in 2012 to grant “more autonomy to enterprises for their production and pricing decisions.” But questions linger about the implementation of these policies, and the momentum of change has slowed to a worrying degree.
Problem and Opportunity
In his December 2020 Workers’ Party of Korea (WPK) plenum address, Kim called for the country to achieve self-reliance by rearranging the foundations of the economy, saying the “Cabinet-responsibility system” will need to be strengthened and central planning must “meet the actual requirements.” The pressure to meet quotas may incentivize officials to set artificially low targets or report inflated production figures.
Kim’s address at this year’s Eighth Party Congress involved further calls for increasing centralization and control, saying, “the state economic guidance organs should readjust and reinforce the economy substantially.” During a recent plenary meeting of the Eighth WPK Central Committee, he called for the Cabinet to restore “their controlling function to improve the guidance and management over the whole economy,” establish “plan discipline,” and “correct the rule-of-thumb way of work in planning and guiding the economic work.” In addition, Kim stressed the need to “strengthen the legal supervision and control over the establishment and executive process of the national economic plan.”
In a February plenary session, the Cabinet expressed interest in giving more independence to enterprises. This is a welcome policy direction, however, it is inconsistent with Kim’s calls for stricter adherence to the central plan. This is especially the case when one considers that “central planning gives rise to particularistic interests,” as noted by University of Sussex Professor Kevin Gray.
Another implication of these instructions is that, in addition to rectifying the unrealistic planning process and boosting production, the Cabinet has been tasked with dragging the unofficial economy into the daylight by formalizing arrangements between state enterprises and the new business class, known as the donju. Such a move risks undermining the liberalizations taken in Kim’s early years because these private entrepreneurs have served an important role as intermediaries in the grey zone between the official and unofficial economies.
Tightening on the Donju
The donju, or “money masters,” are entrepreneurs who use foreign connections and business acumen to climb up the economic ladder. While it is hard to fully assess their value within North Korean society, the donju held $12 billion cash (240,000 North Koreans with at least $50,000), according to a 2018 estimate by South Korea’s intelligence service.. The government calls these holdings “idle currency” and has devised all manner of schemes, detailed below, to get them back in state coffers.
Donju investment pumped new energy into decaying sectors like construction and logistics. These firms and individuals have been able to operate on market incentives because they were permitted a degree of autonomy in exchange for entering into patronage relationships with state officials. Their domain is the grey zone between the official economy and its shadowy twin—an area that was given space thanks to a hands-off approach by planners, fueled by an acknowledgment that, in the absence of a functional state bank or access to international credit, donju investment is crucial. But this arrangement is now under threat because the donju are the targets of extractive government policies aimed at immediate fiscal relief, and may lose their protected position in the grey zone as the Cabinet pushes for greater oversight.
The tightening of state control over economic activity in the past year especially has ranged from pesky to predatory. On the more coercive side, last April, the central bank began issuing domestic bonds, purchased with foreign currency and redeemable for (the dubious promise of) supply inputs. The donju were compelled to purchase the rights or else be denied business permits. By September, the scheme petered out, but not before the government was able to extract money. The central government also solicited increased “loyalty funds” from those who wish to join the party, and introduced an insurance scheme that promises big payouts, but is probably another ploy to generate short-term cash.
Some state factories have been punished for engaging in a longstanding scheme that allows employees to pay fees in exchange for the right to leave work and pursue market activities. This policy shift likely aims to ensure state firms and factories retain a full staff, but it has the side effect of denying people access to the market. Small-scale donju-run businesses make for easy prey when the government needs to raise cash quickly. For instance, in April, a restaurateur’s business was reportedly raided on the pretext that the operation was “anti-socialist.” The bigger fish are not immune either; the central government recently rebuked the Minister of State Construction Control and sent lower-level officials to hard labor after they turned to donju investment to finance state building projects.
The state has also cracked down on the use of foreign currency and Chinese cell phones capable of calling the outside world, restricting access to two systems that empower market activity. To emphasize the point, the authorities executed a currency trader, according to South Korea’s intelligence service. To top it off, the Workers’ Party began handling administration of the country’s markets, prompting concerns about higher stall fees, new restrictions and price ceilings. The operating time of some markets has already been shortened to just four hours per day.
Some questions remain unanswered. How dramatically will the changes affect the state’s relationship with enterprises and the private sector? What will be the impact of government efforts to regularize taxes for grey zone business entities? A case in point involves a recent legal change that affects small businesses. Since the early 1990s, foreign trading companies (FTCs) were permitted to subcontract small affiliate businesses, known as kiji, under their auspices, which were engaged in diverse operations like transportation and mining. The kiji paid foreign currency to their umbrella organization, but retained a degree of autonomy and evaded state oversight, giving the FTCs an easy money-making opportunity. According to research by Andrei Lankov, some kiji “are actually [pseudo-state enterprises] in their own right, being run by a private investor…[They] pay for the right to use the FTC name in the form of a portion of the profits, while keeping most residual income and control over day-to-day operations.” The kiji structure allows market incentives to work, and state companies to benefit.
However, a new legal revision will introduce changes to this system. The Law on Enterprises was amended at a Supreme People’s Assembly meeting in November of last year. The revision calls for party cadres to increase their oversight of enterprises and “participate in the production process and report the results to the party.” This means the kiji will now be subjected to state guidance, inspections and taxation. The implications of this revision remain unknown; it might protect the kiji from corruption and empower them to earn foreign currency. But the extra oversight could also lead to rent-seeking and interference.
To date, public-private arrangements have succeeded largely because the partners share an interest in profitability and are able to maintain a fair degree of autonomy. But the same shadows that enable these partnerships also make the private sector participants vulnerable to bribery and asset seizure. Absent reforms that improve rule-of-law and raise government salaries, it’s probable more oversight will result in greater rent-seeking, not less.
North Korea’s plan to consolidate control over the economy, increase self-sufficiency and squeeze the donju for cash are mutually incompatible aims that cannot be achieved simultaneously and will likely lead to more stagnation for the beleaguered North Korean economy.
“Great Programme for Struggle Leading Korean-style Socialist Construction to Fresh Victory On Report Made by Supreme Leader Kim Jong Un at Eighth Congress of WPK,” DPRK Ministry of Foreign Affairs, January 9, 2021, http://www.mfa.gov.kp/en/on-report-at-eighth-congress-of-wpk/.
“Jo Yong Won, Secretary of C.C., WPK, Makes Speech at Plenary Meeting,” Rodong Sinmun, February 11, 2021.
Institute for Unification Education, South Korean Ministry of Unification, Understanding North Korea 2017, 2017, 173.
“Great Programme for Struggle Leading Korean-style Socialist Construction to Fresh Victory On Report Made by Supreme Leader Kim Jong Un at Eighth Congress of WPK,” DPRK Ministry of Foreign Affairs.
“Second-day Sitting of 2nd Plenary Meeting of 8th WPK Central Committee Held,” KCNA, February 10, 2021.
“Third-day Sitting of 2nd Plenary Meeting of 8th WPK Central Committee Held,” Rodong Sinmun, February 11, 2021.
See also: “11th Plenary Meeting of 14th Presidium of DPRK SPA Held,” Rodong Sinmun, November 5, 2020.