After Jang Sung-taek: Can North Korea brave the economic tempest?

Socialism notwithstanding, North Korea still lives by C.R.E.A.M.

Socialism notwithstanding, North Korea still lives by C.R.E.A.M.

We may not find out why Jang Sung-taek was so dramatically purged from the upper echelons of power last December until both the regime and the DPRK are safely contained within the pages of history books (or tablets, who knows if physical books will still be around when that happens) – however, given Jang’s control over the regime’s finances, many analysts are looking for possible economic motives behind the death of North Korea’s erstwhile regent.

Two 38 North analysts have made persuasive cases for this scenario.

Dr. Ruediger Frank notes that the nature of Jang Sung-taek’s removal made the heretical notion of party disunity a matter of public knowledge. If the purpose of the purge was to concentrate power around Kim Jong-un, Dr. Frank rightly asks why the regime would undertake such a politically risky move when more discreet methods were available (like the purges during the Kim Il Sung era).

Ruediger Frank sees the public purge of Jang Sung-taek as a manifestation of either Pyongyang nearing the long-anticipated endgame or of the leadership’s awareness that its economic policies have reached a “critical point.” Drawing parallels between Kim Jong-un’s 2011 promise to enhance the people’s quality of life (인민생활 향상) and East German leader Erich Honecker’s 1971 outline for “the unity of economic and social policy,” Dr. Frank believes that Pyongyang’s ability to finance ambitious public projects and bolster domestic consumption under the current economic status quo has run aground. Facing political and economic bankruptcy, Jang Sung-taek may have been crucified as

  • A scapegoat for an expected economic decline;
  • or an excuse for drastic changes in the state’s economic policy

Which in turn could mean

  • Reducing public spending and returning to the “muddle-through strategy”
  • Or, in a more favorable turn of events, initiating bold reforms to push through plans like the June 28 Policy

Taking on the prospect for the latter, Bradley Babson points out that Jang Sung-taek’s removal provides a golden opportunity for Pyongyang to reform its distorted financial system, something Babson sees as having been more obstructive to North Korea’s ability to engage with the world than the sanctions.

He believes that Jang Sung-taek’s reluctance to empower the cabinet and his desire to control foreign exchange earning enterprises frustrated the government’s drive for economic change. Babson disagrees with the portrayal of Jang as a reformer and promoter of Chinese-style economic development, instead characterizing him as

a protagonist of maintaining centralized control over foreign exchange inflows and of the political economy of the patronage system. He did not nurture the growth of markets and the political economy of wealth accumulation by traders and entrepreneurs [who worked outside his] control.

With Jang Sung-taek gone and greater policymaking powers in the hands of the cabinet, Babson sees space for the state to restructure Pyongyang’s political economy around providing market access, replacing the patronage system that merely doled out easy money to Pyongyang elites. This in turn will lead to the development of more capable financial institutions that can mobilize credit and manage the country’s economic affairs more rationally. In addition, Babson believes that the country’s continued drive to foster Special Economic Zones will further incentivize the establishment of a more reliable financial system.

These are interesting analyses and are no doubt contributing to some assessments that economic reforms are already taking place in the post-Jang Sung-taek era.

But the challenges facing the state and the regime are still immense. We have outlined previously on this blog our reservations toward the notion that the state is already undertaking the necessary reforms. Even with the removal of Jang Sung-taek, vested interests in Pyongyang may very well force the state to reconsider policies that may jeopardize the capital’s anticipated privileges and purchasing power. And obstacles in Pyongyang’s path to fiscal and monetary stability do not stop there –

On April 9, 2014, the first session of the 13th Supreme People’s Assembly was held to formalize the token consensus for this year’s budget. According to South Korea’s Ministry of Unification, North Korea’s 2014 budget is estimated to be about $7.1 billion. While the exact breakdown of this year’s planned expenditures remains unknown, according to the Rodong Sinmun, the state had allocated in 2013:

  • 45.2% to industrial and economic construction
  • 38.8% to cultural construction (education, healthcare, sports, etc.)
  • 16% to national defense

The same article observed that the state’s expenditure is expected to grow 6.5% from 2013. In addition, spending increases in the following sectors were mentioned:

  • Agriculture, stockbreeding and fishery, 5.1%
  • Capital construction, 4.3%
  • Science and technology, 3.6%
  • Vanguard sector of the national economy and the fields of basic industry and light industry, 5.2%
  • Education, 5.6%
  • Healthcare, 2.2%
  • Social insurance and social security, 1.4%
  • Sports, 17.1%
  • Culture, 1.3%

A day after the Supreme People’s Assembly meeting, Rodong Sinmun carried editorials by assemblymen that appeared to hint at which sectors were receiving the government’s attention:

There are three major issues with the abovementioned investments:

First, we have noted time and time again that it is both inefficient and in the long-run destructive for the state to guide investment in agriculture without allowing farmers to directly access the market. Given North Korea’s current land-labor ratio, it is true that North Korea’s agricultural sector is in dire need of mechanization (more than the intensive application of fertilizer); however, it is the farmers themselves who are in possession of the necessary information to make the most efficient and productive investment – not the state. And while there are signs that the state is allowing more liberties in the management of the land and command over surplus output, effective transmission of information cannot take place while farmers remain unable to freely procure inputs and the state maintains the dual price structure. (See Randall Ireson’s benchmarks for meaningful change)

Second, it is clear that Pyongyang recognizes the imperative of increasing the availability of consumer goods in the market; however, the state’s dedication to unproductive investments will render that task impossible.

As noted in our case study of the post-Stalin Soviet economy, Khrushchev’s decision to increase the people’s incomes without adequate increases in the production of consumer goods to absorb the new demand forced prices to rise as people competed to acquire the scarce products. To avoid the disruptive effects of inflation, the Soviet state attempted to increase production of consumer goods, but could not because the centrally planned economy was overwhelmingly invested in expanding heavy industries. So instead, Moscow opted to subsidize retail prices, adding a huge burden on the state’s budget that eroded the fiscal health of the Soviet Union and eventually turned into ruinous inflation.

In lock step with the Soviet example, North Korea is currently attempting to increase wages while simultaneously bolstering the production of consumer goods. At the same time, Pyongyang is still investing in heavy industries left over from the DPRK’s cataclysmic bid for self-sufficiency during the Cold War – Is 108.3% increase in steel production really a good return on investment when North Korean industries are not churning out merchant vessels? At the end of the day, this industrial hangover will leave Pyongyang with fewer resources to direct to more productive endeavors and contribute to latent inflation brewing beneath the surface.

Lastly, but perhaps most importantly, these disparate economic objectives reveal a wider problem with North Korea’s budget – where will the state acquire the revenue to pursue all this? While Rodong Sinmun claimed that the state collected 101.8% of the anticipated revenue in 2013, it’s interesting to note that expected 4.3% revenue growth for 2014 falls short of the 6.5% growth in expenditures. As noted by Dr. Marcus Noland at the Peterson Institute, Pyongyang is already eating into its assets, drawing down on precious reserves to service its current level of consumption.

Pyongyang did announce that it expects a 5.1% revenue increase from special economic and trade zones in 2014, but this hinges on the belief that industries there will be adequately supplied with energy and that foreign investors will continue to have confidence in North Korea’s growth potential. And here Ruediger Frank underscores the fact that, unlike his native East Germany, North Korea has Beijing as an “enormous potent partner” and sits on one billion dollars of raw materials, especially deposits of rare earth metals, that could endow the country with much needed income. So Mongolian, Chinese, and Russian firms have good reason to look at developing North Korea as a profitable long-term investment. But at the same time, investment risk in North Korea remains absurdly high – not just because of its long-standing conflict with its southern neighbor that rages on without an end in sight, but also because of its extremely perverse and byzantine financial system that has neutered the state’s capacity to effectively manage the economic trajectory of the country. Even if changes are taking place, it will take time for Pyongyang to grasp the technical knowhow of financial management and for foreign exchange earning enterprises to habitually adopt the new controls and regulations.

With these challenges, it is not clear whether the removal of Jang Sung-taek alone will pave the way for the state to make change that are as dramatic as the late-regent’s purge.

Meanwhile, South Korean officials have concluded that the lack of personnel changes in Kim Jong-un’s inner circle during the new session of the Supreme People’s Assembly points to Pyongyang’s desire to maintain the status quo over pushing for bold reforms. But this too is presumptuous, Seoul cannot possibly differentiate between what the National Defense Commission desires and what it is capable of achieving.

The core issue pivots around this single question: Does the regime wield enough power to act with autonomy and push for much needed reforms? Perhaps the very need to dispense Jang Sung-taek as a means to an end shows us that Pyongyang is weak – but as we noted in the introduction to this article, it may be a while before the true motives behind the December purge is revealed to the public at large.

To conclude, it came to our attention that a group of New York-based social scientists did manage to succinctly summarize North Korea’s political economy in 1994 – their publication can be found here


About Yong Kwon

I develop trade advocacy strategies for a DC-based consulting firm. Studied economic history at the London School of Economics, and can be found on twitter at @ykwon88
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7 Responses to After Jang Sung-taek: Can North Korea brave the economic tempest?

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  4. USacul says:

    “Second, it is clear that Pyongyang recognizes the imperative of increasing the availability of consumer goods in the market; however, the state’s dedication to unproductive investments will render that task impossible.”

    Rubbish. Group A production is not “unproductive investments” but rather the bedrock of any modern economy. In the DPRK in particular, steel is exported to China to satisfy their colossal material demands and to earn foreign exchange. In addition, all bottlenecks in the DPRK’s economy depend at least partially on metallurgy to resolve. You act as if Group B production is something that exists unconnected with anything else, which indicates an infantile grasp of macroeconomics.

    Every elite economy, including the DPRK’s southern neighbor, has robust material-technical capabilities in value-added Group A production, without which their heralded levels of Group B production and consumption would be impossible to sustain. The leadership in the DPRK understands this, which is why they have invested in machinery so advanced (automated equipment from Ryonha General Machinery Plant in particular) that 1) South Korean analysts have referred to it as on par with machinery from Germany and Japan, and 2) the US Congress panicked and sanctioned them in 2006 to keep the machinery from being exported. This is, of course, in addition to the considerable number of IT professionals they produce, and the LWR in Yongbyon that is already more physically real than the elusive reactors promised by the South in the 1990s.

    Instead of promoting the actual basis for an elite economy, the US and its clients send hack economists throughout the world instructing countries to dismantle any state-led subsidies and tariffs (which directly contradicts the methods that helped the most advanced East Asian economies develop) and take up selling garments and produce to the First World in hopes that an elite economy will magically appear around them.

    • Yong Kwon says:

      I characterize the investment in steel production as unproductive because it is not the optimal use of scarce capital.

      There are schools of thought that champion steel as the sine qua non industry for economic growth; however, the long-term impact of Francoist steel industry on Spain’s development and the tumultuous legacy of HCI in several developing economies suggest that the role of steel production as an indispensable foundation for economic growth remains a contentious one.

      Furthermore, there is little evidence suggesting that the North Korean economy derives a positive multiplier effect from this sector. And while we can debate long-term implications, the fact of the matter is that the economy has other more urgent needs at hand. For reasons expressed in the article above, North Korea’s first and foremost goal should be to strengthen the domestic consumer market. This in turn will help bring financial and monetary stability to the country.

      On a final note, I am intrigued by your comment on Ryonha General Machinery Plant – do you have sources?

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