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1 North Korea’s Economic Futures: Internal and External Dimensions November 2005 Wonhyuk Lim.

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1 1 North Korea’s Economic Futures: Internal and External Dimensions November 2005 Wonhyuk Lim

2 2 Contents Introduction: Collapse of Collapse Scenarios? Crisis and Response: North Korea’s Economic Reform in Context Economic Shocks and Initial Responses Policy Dilemmas and Challenges Ideological and Institutional Groundwork for Economic Reform Price and Incentive Reform, Decentralization, and Marketization Economic Opening Alternative Futures for North Korea Driver I: Economic Reform Driver II: External Cooperation Prospective Outcomes

3 3 North Korea: Stitch by stitch to a different world Jul 25th 2002 | PYONGYANG From The Economist print edition Three Images of North Korea

4 4 Regional Context: Two Northeast Asias at Night

5 5 Can Northeast Asia be more like Europe?

6 6 North Korea’s Economic Crisis

7 7 Crisis and Response: North Korea’s Economic Reform in Context Economic Shocks and Initial Responses External Shocks, Economic Breakdown, and Famine Political and Security Crisis Tentative Improvisations: Limited Economic Opening and Condoning of Informal Economic Activities Policy Dilemmas and Challenges Financial Hollowing Out of the State: Growth of the Informal Sector and Increasing Burden of Public Subsidies (Arbitrage Opportunities) Crack Down, Accommodate, or Throw in the Towel? Ideological and Political Justification for Economic Change Balance Between the Formal Sector and the Informal Sector Management of Risks from Economic Opening and Development

8 8 Ideological and Institutional Groundwork for Economic Reform Vision: Strong and Prosperous Nation Economy-First Policy Beneath Military-First Politics Principles: Pragmatic Socialism and New Thinking No More Freebies: “Those who don’t work shouldn’t eat.” No More Average-ism: Performance-Based Reward as Socialist Distribution Principle Expansive Definition: “Improving-Perfecting Socialism” Implementation of Changes without Rejection of the Past: “Times have changed…” Institutional and Generational Changes Weakening of the Party and Strengthening of the Bureaucracy Introduction / Amendment of Major Economic Laws

9 9 Transformation and Rehabilitation of the Formal Sector Reduction of Double-Distortions in Prices Relative Prices Between Goods Relative Prices Between Formal and Informal Sectors Increase in, and Differentiation of, Wages Transition from de facto Rationing to Monetization Performance-Based Incentives Decentralization of Economic Decision-Making Increase in Managerial Autonomy Increasing Reliance on Market Transactions “Dual-Track Strategy”: Between the Plan and Market Accommodation of Markets in Return for Taxation

10 10 Economic Opening and Geopolitical Considerations Special Economic Zones and FDI Limits of Internal Resource Mobilization Learning Process: Rajin-Sonbong, Shinuiju, and Kaesong Significance of Inter-Korean Exchanges North’s Transformation: earn money the old-fashioned way; learn market principles; facilitate and consolidate internal reform. South’s Industrial Restructuring: provide an outlet for labor- intensive SMEs; embark on infrastructure development projects in preparation for reunification. Counterbalance Against China’s increasing influence in the North

11 11 Composition of North Korea’s Exports

12 12 Composition of North Korea’s Imports

13 13 North Korea’s Alternative Futures Key Drivers: Proximate Causes of Change Economic Reform External Cooperation Prototypical Scenarios Outward-Oriented Developmental Dictatorship: South Korea, China, and Vietnam Neither a Rogue Nor a Tiger: East Germany? Half Full, Half Empty: North Korea Today Arduous March: North Korea in the Mid-1990s More Extreme Outcomes with Far Lower Probabilities

14 14 Driver I: Economic Reform Major Players Kim Jong Il, Ideologues, Military, Technocrats Domestic and External Players Outside the Plan “Real World”: Feedback Mechanism Motives Monopoly on Power and Its Benefits Ideological Inclinations vs. Economic Realities Elite and Popular Support for Increased Exchanges with the Outside World: Reform without Losers? Concern with the Impact of Economic Liberalization on Regime Stability: Reform with a Satiation Point?

15 15 Driver II: External Cooperation North Korea: Reluctant to Accept CVID Trade in the nuclear program for “security assurances.” Have cake and eat it, too. United States: Reluctant to Accept CVIN Moral and Emotional Factors: Get rid of a rogue state. Strategic Considerations: Let it be a rogue state. Regional Players: Keeping North Korea Afloat Geopolitical Considerations: “We can’t lose North Korea.” (cf. controversy over Koguryo / Korea at the end of 19c.) Prohibitive Costs of War: No Credible Surgical Strike

16 16 Outlook: Normative vs. Positive Dimensions Solution: Non-Nuclear Future > Nuclear Future Security Assurances / Normalization of Relations Nuclear Dismantlement International Assistance for NK’s Development Gridlock: “Non-Credible” Threats from Both Sides NK threat to demonstrate or transfer nuclear weapons: backlash from China and SK US threat to impose sanctions: little support from other parties without prior good-faith negotiation

17 17 Half Full, Half Empty GDP Growth Rate 2-3% - North Korea proceeds with major reform. - Security issues remain unresolved, but North Korea is actively engaged with its neighbors in Northeast Asia despite slow improvement in its bilateral relations with the United States. - A limited amount of economic assistance is available due to remaining economic restrictions. Outward-Oriented Developmental Dictatorship GDP Growth Rate > 7% - North Korea proceeds with fundamental reform. - Security issues are resolved in a comprehensive manner (including energy assistance), and North Korea normalizes relations with the United States and Japan. - Large-scale economic assistance is available as well as FDI on a commercial basis. Neither a Rogue Nor a Tiger GDP Growth Rate 4-5% - North Korea pursues limited reform - Security issues are resolved. - A significant amount of economic assistance is available, but due to limited reform, private-sector capital inflows are limited. Arduous March GDP Growth Rate < 1% - North Korea pursues little reform. - Security issues remain unresolved, and North Korea is largely isolated from the outside world. - Only a minimum amount of economic assistance is available. External Cooperation North Korea’s Alternative Futures Economic Reform

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