 Chapter 3
Guiding the North Korean Economy Toward
Reform and Opening Up――Inter-Korean

ExchangeandNortheast

Asian Economic Cooperation[Key Points]


Estimates suggest that the North Korean economy has been considerably affected by
the sanctions imposed by the international community since 2017. The Kim Jong-un
regime has pursued a number of improvement measures, such as expanding the
economic development zones and giving companies greater autonomy. However, it
has recently been advocating self-reliance in order to withstand sanctions, bringing
North Korea’s economic policy and economic management to a turning point.

Looking at the prospects for North Korea’s future, a scenario involving reform andopening up would subject both North Korea itself and the international community toless political and economic shock than a scenario of transformation following suddenchange. The former scenario is therefore more acceptable to both sides.



As well as enhancing diplomatic activities aimed at denuclearization in North Korea,
Japan and the rest of the international community should encourage the reform andopening up of the North Korean economy by mustering their collective wisdom toachieve a phased expansion in inter-Korean exchange and Northeast Asian economic
cooperation.

Japan Center for Economic Research, FY2017 “Asia Research” Report | 53

Key Data

Inter-Korean Exchange and Northeast Asian Economic Cooperation

Inter-Korean Exchange
SignificanceNortheast Asian Economic Cooperation

・ The peaceful denuclearization of the・ Achieving

not

only

economic

Korean Peninsula will be impossible

development, but also détente among

withouttheachievingstable,long-term

coexistence between the two Koreas

countries

concerned,

therebycontributing to the peace and stability

・Energizing North Korea’s literal market
economy and promoting reform andopening up of the economyof the region
・Providing a focus in the event that
North

Korea

agreestodenuclearization, to serve as a carrot
to encourage change in North Korea
Considerations

・Conditions and timing are important, andefforts

should

be

based

on

actionbyindividual

thecountries putting their own interests

international community’s understanding

first risks feeding North Korea’s

and collaboration
Examples・ Unilateral

dogmatic survival strategy

・Political and military dialogue, cultural

・Infrastructure and energy cooperationexchange, humanitarian support, reunions

・Japanese participation in the Greaterof families separated by the Korean War

Tumen Initiative (GTI)・ Resumption of economic cooperation,
along with cooperation programs such as
the Kaesong Industrial Park and tourism
at Mount Kumgang

54 | Japan Center for Economic Research, FY2017 “Asia Research” Report

1. The North Korean Economy at a Turning Point

The North Korean economy has seen a modest recovery and growth since the beginning of the
21st century, but the economic sanctions imposed on North Korea in 2017 by the international
community — most notably those imposed by China — are presumed to have had a substantial
impact on its economy. According to preliminary figures released by China’s General Administrationof Customs, the value of trade between China and North Korea in 2017 fell by 10.5% from theprevious year to $5.06 billion. The decline in imports was particularly marked, falling by 33%
year-on-year to $1.72 billion in 2017. China is North Korea’s biggest trading partner, accounting foralmost 90% of the latter’s imports and exports. The Bank of Korea estimated North Korea’s 2016
GDP growth rate at 3.9%, but this growth could possibly have been reversed by a substantial decline
in 2017.
If North Korea is to achieve fully fledged economic development, turning around the deterioration
in international relations resulting from its nuclear and missile development will be essential.
Looking solely at the field of economics, North Korea will need to modernize its economy by suchmeans as normalizing production and supply, increasing domestic demand, revitalizing distribution
systems (markets), improving systems for providing the market with finance, reforming systems forallocating labor income and wealth (property), reforming state-managed strategic assets, furthering
technological development, and reforming the conditions for international trade and investment.
Under the banner of its new strategic line of parallel economic construction and nuclear arms
development, the Kim Jong-un regime has embarked on policy shifts in the economic field, such as
the Socialist Corporate Responsible Management System, which involves granting companies
self-management rights, as well as the expansion of economic and trade zones and economic
development zones. The measures to improve economic management that are currently underway inNorth Korea are not regarded as measures aimed at transitioning to a new market economy, rejecting
the previous economic system. However, the current changes in economic policy could be described
as a positive process, in that they incorporate elements of a market economy, while maintaining thebasic principles of existing economic policy. It would probably be fair to say that this is a North
Korean-style process of change that flexibly interprets existing socialist economic principles andtailors them to the actual economic situation.
However, with North Korea becoming increasingly isolated in the international community, thefuture for such fresh changes is unclear. According to the bulletin of the East Asia Trade Research
Board, a private sector group, North Korean economist Professor Ri Gi-song of the Institute of
Economics at North Korea’s Academy of Social Sciences told a visiting Japanese journalist on

Chapter 3 | Guiding the North Korean Economy Toward Reform and Opening Up | 55

January 18 that international economic sanctions were affecting four fields: (1) trade; (2) finance; (3)investment; and (4) science and technology. He disclosed that, in the realm of trade, fuel-related
items in particular had been affected, while in the finance sector, North Korea was no longer able to
make international settlements, placing a heavy burden on trade as a whole. The establishment of
economic development zones was intended to revitalize the economy through domestic andinternational inward investment, but Professor Ri stated that investment from outside the country’s
borders had almost completely dried up.
Amid growing international tension over the nuclear issue, the Kim Jong-un regime is advocating
the strengthening of the “self-sufficient national economy.” This means promoting the strategy called
charyok kaengsaeng (“regeneration through one's own efforts”), which advocates self-reliance, freefrom dependence on cooperation from other countries. At the second plenary meeting of the 7th
Workers’ Party of Korea (WPK) Central Committee, which opened in Pyongyang on October 7,
2017, Chairman Kim Jong-un called for efforts to “further strengthen the power of the country under
the unfurled banner of independence and self-reliance and thus decisively frustrate the reckless
nuclear war provocation and sinister sanctions and pressure of the enemies.”
The change in economic policy will alter the nature of the socioeconomic system and theoutcomes of economic management will directly affect the lives of the populace. If North Korea’s
domestic economic situation were to deteriorate, the resultant risks would not be confined to theeconomy and one cannot completely rule out the possibility that a contingency could occur. In thenext section, let us consider several scenarios for the future of North Korea’s economy and domestic
governance.

2. Scenarios for the Future of North Korea
2.1 Perspectives and Benchmarks Used in Scenario Analysis
Among the perspectives for forecasting the direction that North Korea could take in the near
future are a variety of elements, including domestic governance capacity and external strategic
capabilities at the national level, the legitimacy of the ruling group and internal power struggles,
unifying and repelling forces acting on the administration at the level of the populace, and conflictsof interest and maintenance of equilibrium among stakeholder countries. Even in theoreticalpolitical science, there are various tools for analyzing changes in states and societies, from thetheory of realism, which emphasizes state-centered power politics and security, to the theory ofliberalism, which stresses international mutual cooperation and economic profit, and the theory of
constructivism, which highlights changes in states brought about by the social and international
interaction of identities.
56 | Japan Center for Economic Research, FY2017 “Asia Research” ReportThis chapter analyzes North Korea’s national power based on the following benchmarks: (1)national resources (physical resources, financial and capital strength, human resources, enterprise,technology, etc.); (2) national performance (ability to turn resources into energy, external
constraints, infrastructural capacity, ideational resources, etc.); and governance and militarycapability (=national resources + national performance). As the development (or lack thereof) of (1)national resources affects (3) military capability, the scenarios for national resources and national
performance will be analyzed in combination.
Figure 1 Benchmarks for Analysis of National Power(1) National Resources
Physical resources, financial andcapitalstrength,humanresources, enterprise, technology－Population, territory－ Human capital (education,
occupations)－ Economic might (GDP, FDI,
ODA, economic growth rate)－ Undergroundresources(energy, minerals, etc.)－ Technical capabilities (R&D,
number of patents)－Government finances－ Military might (number oftroops, equipment)(2) National Performance
External
constraints
andopportunities
Infrastructural capacity, ideational
resources－

External

constraints(3) Governance and Military
Capability=National resources +National performanceandopportunities(Number of competitor/enemy
countries and their strength,
number of allies, degree of
reliance on other countries forresources and energy)－ Political infrastructure (politicalregime,power
structure,policymaking process, membersof the elite, political participation
by citizens)－ Socioeconomic infrastructure(citizensatisfaction,socialconflict, attraction of FDI)

Source: Modified version of Ashley J. Tellis, et al., Measuring National Power in the Postindustrial Age: Analyst's
Handbook (Santa Monica: Rand, 2000), p. 45

Combining the benchmarks of national resources and national performance as shown in the top
half of Figure 2 gives the six possible scenario types shown in the bottom half.

Chapter 3 | Guiding the North Korean Economy Toward Reform and Opening Up | 57

Figure 2 Conceptual Diagram of Scenario Composition(1) National Resources(2) National Performance

I Phased reform and opening up
model

A Regeneration andstrengthening of thecurrent regime

II Radical reform and opening up
model

B Weakening of thecurrent regime

III Closed economy modelI-A Scenario

I Phased reform and opening up
model

A Regeneration and strengtheningof the current regime

I-B Scenario

I Phased reform and opening up
model

B Weakening of the current
regimeII-A Scenario

II Radical reform and opening up
model

A Regeneration and strengtheningof the current regime

II-B Scenario

II Radical reform and opening up
model

B Weakening of the current
regime

III-A Scenario

III Closed economy model

A Regeneration and strengtheningof the current regime

III-B Scenario

III Closed economy model

B Weakening of the current
regime2.2 Types of Scenario for the Future of North Korea
In the envisaged six types, factors such as North Korea’s domestic situation and international
relations intertwine to form specific scenarios.

① North Korean Internal Factors<Economic Factors>
The following provide valuable information as factors determining whether the economy will

58 | Japan Center for Economic Research, FY2017 “Asia Research” Reportrecover from its current situation.
N-1 Food supply situation
N-2 Munitions industry as a share of the economy
N-3 Proliferation of markets
N-4 Extent of foreign trade and investment by foreign enterprises
N-5 Operation and output of domestic factories<Political Factors>
The following provide valuable information as factors determining the nature of the North
Korean administration and policy reaction as each scenario unfolds.
N-6 The state of Kim Jong-un’s health
N-7 Changes in the administration’s core group
N-8 Presence/absence of an organized opposition
N-9 Conflict between policymaking groups
N-10 Changes in the power ranking between the WPK, the Cabinet, and the military<Social Factors>
Social factors are another set of factors determining the regime’s reaction in each scenario; thefollowing provide valuable information.
N-11 Extent of the increase in the number of North Korean defectors
N-12 Changes in citizens’ trust in ideational resourcesN-13 Influx of information from the outside world
N-14 Level of blocking of external information and presence/absence of friction
N-15 Changes in consciousness among citizens and the elite class
N-16 Formation of civil society and presence/absence of opposition to the administration’s
leadership② Status of International Relations
The following provide particularly valuable information from the perspective of theinternational nature of the Korean Peninsula issue.
S-1 South Korea’s economic growth and financial capabilities
S-2 South Korean leadership’s desire for unification
S-3 Changes in the US-South Korean alliance and/or Sino-Korean relations
S-4 Support for unification within South Korean society
A-1 US policy on the nonproliferation of nuclear weapons and weapons of mass destruction(WMD)

Chapter 3 | Guiding the North Korean Economy Toward Reform and Opening Up | 59

A-2 US policy toward China and relations with North Korea
A-3 Possibility of dialogue between the US and North Korea
A-4 Presence of US forces in South Korea
C-1 China’s economic support for / sanctions on North Korea
C-2 China’s guidance to North Korea in the areas of economic reform and opening up
C-3 China’s Korean Peninsula Policy (including relations with South Korea)
J-1 Outstanding issues between Japan and North Korea
J-2 Strengthening of alliances between Japan, the USA, and South Korea
R-1 Russia’s economic and military cooperation with North Korea
R-2 Russia’s status in Northeast Asia

Figure 3 shows the possibilities that emerge if we take an assessment of the foregoing factors as
the central axis and then add in such factors as the nature of the North Korean administration, theunity of the leadership / potential for social disruption, and the presence or absence of reform.

60 | Japan Center for Economic Research, FY2017 “Asia Research” ReportFigure 3 Possible Scenarios for the Future of North Korea
Economic system unimproved

Policy model

Closed economy
III-A

National
Performance

Regeneration andstrengthening of the regime

Economic system improved
Phased reform and opening up

III-B

I-B

Weakening of theregimeWeakening of theregimeI-A

Nature of
Situatreaction andRegimeion administration
policyEconomic difficulties

Radical reform and opening up
II-B

II-A

Regeneration andstrengthening of the regime

Economic regeneration

StableWeak

Weak

Stable(I-A,II-A,III-A)(I-B,II-B,III-B)(I-B, II-B)(I-A, II-A)) III-A)
Leadership united

III-B)
Internal conflict among leadership / citizens’
revolt / foreign intervention

Leadership united

Hard-line policy toward
South Korea & US

Maintain socialism

Sudden change

Accelerate reformand opening up

Regime outcomes /international relations

Full
emergence ofthe military

Rule byreformists

Regimecollapse

Bring situation
under control

International cooperation (resolution ofoutstanding issues)

International
involvement (Improved

Scenario outcome

Maintain thestatus quo

Conflict

Coexistence of thetwo regimes

economic

systeminternational cooperation)

intensifies

Possibility of local
clashes / outbreak ofwar, antagonistic
coexistence

Collapse of the stateTransition to a market
economySwitch to a democratic
administration

Socialist market
economyDevelopmental
dictatorship

Chapter 3 | Guiding the North Korean Economy Toward Reform and Opening Up | 61+

2.3 Pattern Analysis of Scenarios for the Future(1) Possibilities by scenario
As seen in Figure 3, there are five possible scenarios for the future of North Korea: (1) maintainthe status quo; (2) war breaks out; (3) collapse of the state; (4) regime change (switch to a market
economy and a democratic administration); and (5) reform and opening up (socialist market
economy). Figure 4 shows the likely details of each scenario.

Figure 4 Details of Scenarios for the Future of North Korea(1)

Scenario
Outcome
Maintainthestatus quo(2)

War breaks out(3)

Collapse of the
state

(4)

Regime change(Marketeconomy anddemocracy)(5)

Reformandopening up

Details(i) Stable administration―Economic difficulties―Hard-line stance toward South Korea & othercountries―Continued state of anxiety(i) Stable administration―Deepening economic difficulties / failure of economic reforms―Hard-line policy toward South Korea & other countries―Local clashes / outbreak of war(ii) Weakened administration―Deepening economic difficulties / failure of economic reforms―Internal conflict among leadership / creation of refugees / social change―Emergence of reformists and failure of reforms―Full emergence of the military and local clashes / outbreak of war(i) Weakened administration―Deepening economic difficulties / failure of economic reforms―Internal conflict among leadership / creation of refugees / social change―Emergence of reformists and failure of reforms―Collapse and disappearance of the state(i) Stable administration―Success of economic reforms―Change of track by leadership―International cooperation(ii) Weakened administration
A. Continued economic difficulties―Internal conflict among leadership―Change in the military―Rule by reformists to bring the situation under control
B. Implementation and failure of economic reforms―Social disruption―Change in the military―International cooperation to bring the situation under control
C. Forced transformation via international involvement in the wake ofsudden change(i) Stable administration―Economic regeneration through economic reform and opening up―Coexistence of socialism with reform and opening up―Inter-Korean conflict / inter-Korean exchange

62 | Japan Center for Economic Research, FY2017 “Asia Research” Report

(ii) Weakened administration
A. Economic regeneration through economic reform and opening up
B.
Deepening economic difficulties and internal conflict among leadership―Change in the leadership―Social disruption and emergence ofreformists―Peaceful coexistence with South Korea & other countries―Successof reforms and peaceful coexistence with other countries―Military cooperation―Military cooperation

At present, North Korea has a strong ruling regime (demonstrates national performance) centeredon the WPK, so the possibility that economic problems will lead immediately to political disruption(change) and regime change is relatively low and the potential for the collapse of the state is low.
The possibility of North Korea itself embarking on an all-out war that would lead to the collapse of
the state is even lower. While maintaining its current regime, North Korea is moving forward withpartial economic improvement measures (the strategic line of parallel nuclear and economic
development). Maintenance of the status quo is also conceivable, but, depending on the way thingsdevelop going forward, there is also a possibility of ensuring the safety of the regime, while
promoting economic reform and opening up. Consequently, this chapter excludes the first three
scenarios ― (1) maintain the status quo, (2) outbreak of war, and (3) collapse of the state ― andconsiders first the scenario of transformation after sudden change, and then the scenario of reformand opening up while still maintaining the current regime.

(2) Scenario of transformation after sudden change
The following are cases leading to a scenario of regime change involving a shift to a market
economy and democracy in the wake of sudden change.
A. Failure of the current regime’s policy of maintaining the status quo (continued economic
difficulties) and weakening of the regimeAs the North Korean administration’s policy of maintaining the status quo fails andeconomic difficulties deepen, social disruption occurs in the form of a flood of refugees,
along with internal conflict among the leadership

As a result of conflict over the economic regeneration strategy, a reformist faction
pursuing the path of reform emerges and establishes a new government (change ofadministration or partial change)The military supports the path of reform

B. Promotion of economic reform by the present regime and weakening of the administration


The present North Korean regime implements reforms to regenerate the economy

Chapter 3 | Guiding the North Korean Economy Toward Reform and Opening Up | 63While economic regeneration is taking place, an upsurge of popular sentiment triggers
sudden change, leading to a change of administration



The military supports the path of reform

C. Regime change and forced transformation via international involvement in the wake ofsudden changeThe international community becomes involved when the domestic administration
proves unable to bring the situation under control

The military cooperates in the international involvement(i) Example of regime change following sudden change
One example of regime change involving a shift to a market economy and democracy following
a sudden change can be seen in the case of the countries of Eastern Europe.
Regime change progressed rapidly in Eastern Europe from 1989. Popular resistance to socialist
regimes led to regime change. Elections were the means of achieving regime change. In Poland, theCzech Republic, and Hungary, the power of civil society served as the motive force driving regimechange. On the other hand, in countries such as Romania, Bulgaria, and Albania, resistance in theform of an exodus of citizens to other countries led to regime change.
Cases in which the first transition away from a socialist regime began with liberalization and achange of leadership through elections attract attention as examples in which a change in thepolitical regime brought about a transformation in the economic system. These transitions
progressed along the following two courses.
A. Early civil society formed → free general elections held in consultation with the Communist
Party → popular movements achieve victory and Communist Party forces excluded (Poland,
Czech Republic, Hungary)
B. Early civil society formed and free general elections held → Communist Party forces
excluded (Romania, Bulgaria, Albania)
While it could be said that Eastern Europe chose a radical approach to regime change, theapproaches adopted in transforming economic systems differed from one country to another. Poland
and the Czech Republic adopted a radical approach called shock therapy, while Hungary employeda progressive approach.

64 | Japan Center for Economic Research, FY2017 “Asia Research” ReportFigure 5 Eastern European Approaches to Economic Policy
MethodShocktherapy

Progressiv
e therapy

Details－Privatization
All assets privatized at once
(pursuit of economic efficiency)－Price liberalization
Prices liberalized at the sametime as privatization
Reforms
introduced
progressively over a period oftime, to enable the country to
get used to a market economy

State
PolandCzech
Republic
East Germany

Result－ Disruption in the initial stage,
including rising exchange rates,
falling production, and massunemployment－Stabilized from 1992-94

Hungary(Romania,
Bulgaria)－Economy was relatively stable－Economic recovery slowed－ Although Romania and Bulgaria
adopted progressive measures,
their inflation rates were more than
100% between 1990 and 1995

Source: Compiled from various materials.

(ii) Suggestions based on Eastern European cases
The key to regime change in Eastern Europe was the fact that, following the change ofadministration in each country, the new leadership implemented both economic reform and regimechange. Regime change took diverse forms, due in part to the fact that each Eastern European
country differed from each other in such areas as their history, civil society formation process,culture, and religion. In Eastern European countries with few national resources, the weakening of
national performance led to radical regime change. Central to this process was the formation ofcivil society. While the regime change scenario is a possibility, in many respects it is unclear
whether or not Eastern European cases can be applied unaltered to North Korea, which pursued thepath of Stalinist socialism immediately after colonial rule by Japan was brought to an end, building
up a three-generation dictatorial regime under Kim Il-sung, Kim Jong-il, and Kim Jong-un.

(3) Scenario of reform and opening up
This is the scenario in which the framework of North Korea’s current systems is maintained,
while promoting a policy of radical or progressive reform and opening up, with the present regime
remaining stable as it becomes established. This scenario involves the following cases.
The present North Korean regime transitions to a path to reform and opening up toregenerate the economyThe policy of reform and opening up involves parallel strategies of maintaining socialism
and undertaking economic reform and opening up, while safeguarding the ideational
resources of “the revolutionary tradition of President Kim Il-sung”

Chapter 3 | Guiding the North Korean Economy Toward Reform and Opening Up | 65Through Chinese-style or more radical economic reforms, industrial production recovers
and North Korea proactively promotes a policy of special economic zones

North Korea’s systems undergo partial change, while the existing adversarial relationshipbetween North and South Korea continues and the division system between the two
becomes more entrenchedInter-Korean relations improve and initiatives focused on reform and opening up
accelerate within a state of peaceful coexistence① Examples of scenarios for reform and opening up
Both China and Vietnam are model examples of this scenario. Here, we will analyze the example
of Vietnam.
Around 1980, Vietnam’s efforts to build its economy via the path of socialist revolution
collapsed. Within the Communist Party, which had adopted a collective leadership system, aconflict over the strategy to be adopted arose between the faction advocating central control and thefaction promoting liberalization. Due to regrets about the rapid pace at which socialism wasadopted, resulting in such developments as the emergence of an anti-government movement among
peasant farmers, agricultural reforms were implemented in 1979, including the introduction of acontract farming system and the dismantling of agricultural production cooperatives. These wereaccompanied by reforms of the industrial and service sectors. Since the adoption of the doi moi(renovation) policy at the 1986 party conference, the Communist Party government has beenpromoting reform and opening up.
Vietnam’s reform measures in the 1980s were similar to those of China, but they attached greater
importance to the recovery of the battered economy. In the 1990s, Vietnam implemented measures
to encourage the development of a market economy, based on policy advice from the International
Monetary Fund (IMF) and the World Bank.
Figure 6 Vietnam’s Promotion of Policies to Develop a Market Economy
Reform and opening up for economic
regeneration (1980s)－ Central government power devolved to theregions and production units－ Production units granted autonomy overmanagement and finances－Reform of the egalitarian wage leveling system－Introduction of market principles to the pricing
and distribution systems－ Shift in emphasis from heavy industry to

Encouraging the development of a market
economy (from the 1990s)－Reform of rural communities－Price liberalization－Currency devaluation－Interest rate reform－Public finance reform－Encouragement of private enterprise－Proactive efforts to attract FDI－Trade reforms (abolition of import and export

66 | Japan Center for Economic Research, FY2017 “Asia Research” Reportagriculture, light industry, and trade－ Promotion of a policy of opening up the
economy to the outside world→ Economic disruption due to such issues as
annual inflation of several hundred percent
and incompatibility with the legal system;
unemployment surged; support from theSoviet Union halted→ Full-scale promotion of the transition to amarket economy(Debt carried over, meeting of donor countries
organized by the World Bank)

controls)－Reinforcement of the safety net (support for theunemployed)

Source: Compiled from various materials.

Figure 7 Classification of Periods in the First 20 Years of Chinese and Vietnamese Reforms
Category

China

Stage 1

1978
onwardStage 2

1984
onwardStage 3

1992
onwardPeople’s communes dismantled1979
onwardAutonomyofcompanies
extended; opening up of economy 1986
to the outside world gains onward
momentum
Dramatic advances after Deng
Xiaoping’s
instruction
to1991
accelerate reform and opening up
onward(in the nanxun jianghua (southern
tour speech))VietnamBurgeoning efforts to transition
to a market economy; contract
production
byfarmers
introduced
Foundations for the transition toa market economy developed;
reforms of companies and urban
areas
Full-scale promotion of thetransition to a market economy,
achievement of sustainablegrowthSource: Teruyuki Tanabe, “Hikaku Kenkyū: Betonamu no Ikō Keizai Jirei Kenkyū” [Comparative study: Case studyof Vietnam’s transitional economy], Keizai kara mita Kitachōsen [North Korea through an economic lens], Akashi
Shoten, 2010, p. 222

The following policy goals were set in Vietnam’s policy of reform and opening up.
The first was the restoration of shattered production capabilities. Measures implemented torestore agricultural production in a country in which 80% of the population lived in ruralcommunities included a system of contract production, the liberalization of distribution, the liftingof the ban on exports, and allowing land usage rights to be onsold or inherited. As a result, Vietnam
went from being a country with food shortages to being a rice exporter. The foundations of themarket mechanism were laid by deregulating the management of state-owned enterprises andliberalizing prices, as well as by switching to private management of enterprises.

Chapter 3 | Guiding the North Korean Economy Toward Reform and Opening Up | 67

The second goal was the stabilization of the economy. Vietnam carried out fiscal management inaccordance with policy advice from the IMF and the World Bank, which alleviated the budget
deficit.
The third goal was infrastructure development for the purpose of economic development. Bothhard (physical) infrastructure — such as industrial parks to attract foreign capital, as well as roads,
gas supply infrastructure, hotels, and residential areas — and soft (legal systems) infrastructure wasput in place.
As these policies focused on reform, opening up, and the introduction of a market economy
gained momentum, Vietnam’s economy experienced ongoing high growth and government debt
underwent a sharp reduction from 250% of gross domestic product (GDP) in 1992 to 38% in 2002.

② Pointers based on Vietnam’s example
At the outset of the reform process, Vietnam was an agrarian country in which agriculture
accounted for the majority of industry, so it had a simple industrial structure in which the economy
would function as long as productivity in the agricultural sector was restored. The leadership of theCommunist Party of Vietnam remained free from excessive competition among individual leaders
and adopted the basic principle of consensus building based on comparatively free discussion, so
not a single violent purge took place. Vietnam used foreign aid (grant aid and loans) to fund thedevelopment of electric power, roads, and other infrastructure, as well as promoting
industrialization through the introduction of private sector funding via foreign direct investment(FDI). A meeting of donor countries convened by the World Bank played a central role in rollingover debt repayments, fiscal stabilization, and the development of a market economy.
From this perspective, Vietnam differs greatly from North Korea in terms of the level of national
resources and national performance. Vietnam’s example provides pointers concerning a phased
approach to economic reform and opening up, as well as the method employed in foreign relations.
If North Korea maintains the framework of its current regime, one cannot expect to see majorchanges from the current situation, in which the country’s access to financing is blocked by theinternational community. The key lies in how to secure funding and goods from friendly countries
and how to attract FDI. A scenario involving reform and opening up would subject both North
Korea itself and the international community to less political and economic shock than a scenario
of transformation following sudden change. The former is therefore more acceptable to both sides.

3. The Future Direction of the Situation on the Korean Peninsula and the Economic Card68 | Japan Center for Economic Research, FY2017 “Asia Research” Report3.1 The Effects and Limitations of Economic Sanctions
What is unfolding at present is a struggle over North Korea’s nuclear weapons and missiles inwhich the security of the other countries concerned is at stake. In the short term, there is little scopefor economic issues to make it onto the agenda. However, the economy could become a crucial card
when looking at a long-term strategy aimed at achieving the denuclearization of North Korea and at
the future of Northeast Asia.
Even now, a series of offensive and defensive moves involving the economy is playing out
between Japan and the US, among others, on the one hand, and North Korea, on the other. The
economic sanctions against North Korea are a prime example of these. Between October 2006,
when North Korea conducted its first nuclear test, and the end of 2017, the United Nations Security
Council adopted 10 resolutions imposing fresh sanctions on North Korea. Initially, the sanctions
were limited to such items as weapons and materials directly related to North Korea’s developmentof weapons of mass destruction, as well as luxury goods, but in recent years, the focus has
broadened to encompass the ability to develop weapons of mass destruction, with restrictions
imposed on the mineral resources that form North Korea’s main exports. Items for civilian use havealso been targeted of late, with limits on exports of clothing produced under contract manufacturing,as well as marine produce and even labor. Sanctions have taken on an increasing tinge ofcontainment, spreading the net widely across North Korea’s foreign economic activities to curb its
ability to develop weapons of mass destruction.
Under the banner of “maximum pressure,” the US made clear its intention to embark in earnest
on secondary sanctions, imposing autonomous sanctions on companies and financial institutions inthird countries that engage in illegal transactions with North Korea. It is because of the existence of
brokers in countries such as China that North Korea has, until now, been able to access theinternational financial system and expand its foreign economic activities despite the imposition of
sanctions by the international community. Secondary sanctions target such brokers. It is hoped that
this will also have a psychological effect in curbing transactions with North Korea, as banks onwhich sanctions have been imposed are shunned by other banks.
Sanctions will regulate the extent of North Korea’s foreign economic activities and thetransaction costs thereof. If the content of sanctions is tightened and the number of countries thatcomply with them increases, North Korea will find it markedly more difficult to engage ineconomic transactions with other countries. Attempts to evade sanctions will entail even higher
costs than before, from the perspective of developing new markets and methods of doing business.
It is only natural to conclude that, if the effort and risk involved in doing business increase, the feesthat brokers charge to use their services will also rise. In other words, it will be high risk for highChapter 3 | Guiding the North Korean Economy Toward Reform and Opening Up | 69

returns.
Another line of analysis argues that North Korea has actually increased its ability to procure thegoods that it needs, because it has already secured highly capable brokers, such as Chinesecompanies, by paying large sums in fees, despite being subject to sanctions. Countries such as
Japan and the USA argue in favor of tightening UN sanctions and urge UN member countries toabide by them, with the objective of pressuring North Korea into a policy change aimed atachieving denuclearization by increasing the cost of North Korea’s foreign economic activities tothe very limits. North Korea could conceivably move to procure the requisite goods irrespective ofcost, if it deems them essential to the completion of its nuclear missile program. However, it isanticipated that there will be a substantial impact on trade in other goods. There is also a possibility
that the lifestyle of the populace could take a direct hit as a result of North Korea’s economic
difficulties, which could affect governance by the Kim Jong-un regime as it pursues its strategic
line of parallel economic construction and nuclear arms development.
On the other hand, fundamentally speaking, there are constraints on the effectiveness of
economic sanctions, as well as political limitations due to the international situation. Specific issues
identified include (1) the existence of countries that do not comply with sanctions or which havedifficulty in complying with them; (2) issues with the substitutability of goods; (3) problems
relating to the impact on ordinary citizens in sanctioned countries; and (4) the associateddestruction of the existing economic order.
The destruction of the existing economic order encompasses the expansion of black market
transactions and economic crime; in the case of North Korea, which is undertaking nuclear
development, the ace up its sleeve is the possibility of procuring funding via nuclear proliferation.
Vessel inspections and naval blockades intended to stamp out black market transactions run the riskof heightening military tensions. One cannot completely discount the possibility that the embattled
Kim Jong-un regime might even choose the path of explosion rather than implosion. Even if one
wanted to further tighten sanctions or eradicate sanctions-busting, there is the question of whatshould be done and how far those steps should be taken. It seems likely that the international
community will need to make a comprehensive judgment that takes foreign policy and militaryaffairs into account.

3.2 Shifting to a Path of Dialogue and Potential for Trade
As tensions over the North Korean nuclear missile issue rise on the Korean Peninsula, there is apossibility that foreign policy focused on North Korea could itself reach a turning point. Whereas
Japan and the US are advocating maximum pressure through economic sanctions and the like,

70 | Japan Center for Economic Research, FY2017 “Asia Research” ReportSouth Korea has taken the opportunity presented by the Pyeongchang Olympics and Paralympics todevote its energies to inter-Korean dialogue. China and Russia are both seeking a solution via
dialogue, with China proposing a “double freezing” initiative under which North Korea would
freeze its nuclear and missile activities, while the US and South Korea froze their joint military
exercises, along with “dual-track parallel advancement” toward the denuclearization of the Korean
Peninsula and the creation of peace mechanisms on the peninsula. The path chosen by theinternational community going forward is likely to substantially influence the content of sanctions
and the approach to economic exchange with North Korea.
Economic assistance has featured in previous deals relating to the North Korean nuclear issue. In
the 1994 US-North Korea Agreed Framework, the US and other nations agreed to provide energy
assistance in exchange for North Korea freezing its nuclear development program. The US supplied
North Korea with heavy fuel oil, while an international consortium centered on South Korea andJapan provided support for the construction of light water reactors. Energy assistance was also
incorporated into the 2005 Joint Statement of the Six-Party Talks, which was aimed at North
Korean denuclearization.
Now that North Korea has reached the final stage in its development of nuclear missiles, manyargue that it should not be allowed to buy time or renege on its end of the deal under which it
received support. However, others take the view that some kind of deal will need to be made atsome stage. Experts in the field of security and foreign policy are even discussing proposals for aphased deal involving a long-term plan under which North Korea would denuclearize on the basisof the following process: halt tests → mothball nuclear facilities → monitor nuclear material →disable nuclear facilities → dismantle nuclear facilities. In return, the US and other countries would
provide support in such areas as joint peaceful use of nuclear energy + joint space development +humanitarian aid → human resource development + technical assistance → basic infrastructure
support → advanced infrastructure support. North Korea’s nuclear and missile development will becontained through the joint peaceful use of nuclear energy and joint space exploration. This plan isbased on the fact that North Korea regards nuclear power and space exploration as a means not
only of ensuring its security, but also of achieving economic development.
What the international community can offer North Korea is the phased relaxation of economic
sanctions; humanitarian aid in such fields as health and medical care; approval for inter-Korean
economic exchange; gradual escalation of the exchange of people and goods between the US andNorth Korea, and between Japan and North Korea; development of human resources and of
agriculture and rural communities; cultural and educational exchanges; economic assistance in suchareas as infrastructure development; and the normalization of diplomatic relations between the US

Chapter 3 | Guiding the North Korean Economy Toward Reform and Opening Up | 71

and North Korea, and between Japan and North Korea.
In the event of a shift to the path of dialogue, there will be the question of whether the central
framework will be bilateral (for example, between the US and North Korea, or between North andSouth Korea) or multilateral. In addition to four-party talks involving the two Koreas, the US, andChina, previous experiences of multilateral discussions include the Six-Party Talks, which also
involved Japan and Russia. The deal could possibly be executed over the long term in ten-yearincrements; the country that formulates the most rational and practical plan based on the optimal
timing will lead the process.

3.3 Points to Note Concerning Inter-Korean Exchange and Northeast Asian Economic
Cooperation
Solidarity among the international community will be essential when embarking on dialogue
with North Korea. Previously, a lack of unity among the international community produced gapsthat North Korea was able to exploit to continue its nuclear and missile development. Moreover,each country pursued economic activities for its own ends, permitting North Korea to takeadvantage of the situation and pursue a self-centered survival strategy. To ensure that the failures ofthe past are not repeated, the international community must work in close partnership in the area of
economic activities and address the situation strategically.
The Pyeongchang Olympics were the catalyst for inter-Korean dialogue; discussion of the pros
and cons of inter-Korean economic cooperation must go beyond South Korea to encompass theinternational community. North Korea will at some stage pursue the relaxation of economic
sanctions and seek to embark on economic cooperation, and there is concern that international
collaboration will collapse if this comes to fruition.
However, the resumption of inter-Korean dialogue, exchange, and cooperation should not be
excessively restricted. This is because, as pointed out in Chapter 1, the nuclear and missile issues
stem from the division of the Korean Peninsula and the rivalry between the two regimes, so thepeaceful denuclearization of the Korean Peninsula will be impossible without achieving stable,
long-term coexistence between the two Koreas
If inter-Korean cooperation results in the development of North Korean economic infrastructure,a kind of mutually dependent inter-Korean economic community could emerge in the future. It is
hoped that the easing of economic sanctions, along with inter-Korean exchange, will actuallyenergize North Korea’s literal market economy and promote economic reform and opening up. The
reform and opening up of the economy will lead to the North Korean regime becoming more
flexible.

72 | Japan Center for Economic Research, FY2017 “Asia Research” ReportIf inter-Korean dialogue advances in due course, specific economic cooperation projects arelikely to emerge, in addition to humanitarian support for North Korea and the resumption ofreunions of families separated by the Korean War. The first such projects could conceivably be therestart of operations at Kaesong Industrial Park, which was closed as a result of the sanctions
against North Korea, and the resumption of the Mount Kumgang tourism project.
These are projects that earn cash for North Korea, but the conditions for implementation and thetiming are the problem. Inter-Korean exchange should be based on the international community’sunderstanding and collaboration. The stabilization of the region that would result from improved
inter-Korean relations, and indeed, the reform and opening up of the North Korean economy itself
would also be desirable for Japan. If the conditions are met, it would be fine for Japan to engage incooperation appropriate to each phase.
Other countries, too, should emphasize international collaboration in economic activities
involving North Korea, refraining from unilateral actions that prioritize their own interests. One of
the factors behind North Korea’s success in achieving modest economic growth since conducting
its first nuclear test in 2006, despite the UN’s imposition of sanctions, is the growth of North
Korean trade with China. Some have commented that Premier Wen Jiabao’s agreement to expand
economic cooperation, reached in 2009 during his visit to North Korea after the second nuclear test,
was regarded as a seal of approval and acted just like a shot from a starting pistol, with Chinesecompanies stepping up their business with North Korea — including illegal activities — thereafter.
One line of thinking is likely to focus on multilateral international cooperation projects, to enable
the international community to work together and respond strategically, without allowing individual
countries to steal a march on others in economic activities involving North Korea. Aside from theNorth Korean nuclear and energy problems, security and historical issues still remain in Northeast
Asia. Multilateral cooperation in such areas as logistics infrastructure development and energy
cooperation has advantages not only in an economic sense, but also in terms of contributing to thepeace and stability of the region through détente among the countries concerned.
For example, there is the Greater Tumen Initiative (GTI), a comprehensive development plan for
the Tumen River Area, focused primarily on the region where the borders of North Korea, China,
and Russia meet. China, Russia, South Korea, and Mongolia are members of the initiative, which is
supported by the United Nations Development Programme (UNDP). Japan did not participate fromthe outset, while North Korea was previously a member, but subsequently withdrew.
With North Korea having dropped out of the project, now might be the right time for Japan to
become involved. If the US also became involved and the participants drew up a vision forinternational economic development, there would be scope for North Korea to join the framework,

Chapter 3 | Guiding the North Korean Economy Toward Reform and Opening Up | 73

if it agreed to denuclearization. This could be turned into one ingredient that would encouragechange in North Korea by setting out a realistic vision for the future of Northeast Asian economic
cooperation that includes North Korea.
As seen in the scenario analysis, reform and opening up would involve less political andeconomic shock than a scenario of transformation following sudden change, and would therefore be
more acceptable to stakeholder countries, as well. As the third generation, Kim Jong-un and his
regime dislike the term “reform and opening up,” associating it with a rejection of the policies ofthe previous two generations, but it is vital to substantively guide North Korea in that direction.
There are matters that must be considered now, to encourage the reform and opening up of theNorth Korean economy, as well as addressing the pressing nuclear and missile issue. Japan has
various economic cards that it can play, even before embarking on the normalization of diplomatic
relations with North Korea, which will be a prerequisite for the resolution of both the abductions
issue and the nuclear and missile issues.

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76 | Japan Center for Economic Research, FY2017 “Asia Research” Report