Risks of investing in North Korea
In April of this year, the Third Plenary Session of the Seventh Central Committee of the Workers’ Party of Korea put forward the strategic line of "concentrating all the forces of the whole party and the country for socialist economic construction." Following the intensive exchange of visits between the leaders of China and North Korea, Moon Jae-in and Kim Jong-un signed the "Panmunjom Declaration on the Realization of Peace, Prosperity, and Reunification of the Peninsula" and the "Special Gold Council". Investors seem to see the dawn of North Korea’s economic reform and opening up, and their investment enthusiasm is once again provoked. From time to time, there are news that "investors are optimistic about North Korea and go to Dandong and Hunchun to speculate in real estate."
Any private investor must consider two issues when making investment decisions: The first is the protection of property rights. For private investors, the first concern is whether the property can be effectively protected (risk of expropriation), and whether disputes arising from investment in the future can be fairly resolved. According to a survey by Stephan Haggard (2011), 60% of North Korean investment companies are concerned about the risk of expropriation.
Although North Korea revised a large number of laws to boost investor confidence around 2000, such as the "Foreign Investment Law", "Foreign Enterprise Law", "Joint Venture Law", "Cooperation Law" and more than 20 foreign investment related laws. The law also introduces dispute resolution mechanisms, such as mediation, arbitration, and court mechanisms. In order to ensure its objectivity and neutrality, international arbitration institutions have been introduced. However, in fact, the implementation of laws and regulations lacks basic guarantees and policies The volatility is extremely high, and the risk of expropriation of investment in North Korea is still worthy of great attention, such as the Liaoning Xiyang Group incident in 2012. The group invested 240 million yuan in North Korea from 2007 to 2011, and invested in the construction of an iron ore concentrator at the Wengjin Iron Mine in Wengjin County, South Yellow Sea, North Korea. After obtaining the technology, the North Korea unilaterally tore up the contract and expelled it. Western Group.
The second is the issue of investment profitability. Even if property rights are protected, restrictions on taxation, trade policies, financial measures, and other control measures may still make investments unprofitable. Profit opportunities mainly come from North Korea’s limited official market and black market. For example, the prices of basic consumer goods have soared due to shortage of supplies. However, market behavior has been severely restricted, and the government has a vague attitude towards bottom-up capitalism, swinging back between tolerance and hostility; if industrial products are to be shipped out of North Korea, they will face the lack of a reliable transportation system. Difficult.
At the same time, investment in North Korea faces the problem of irregular settlement methods. According to the Law of the Democratic People’s Republic of Korea Raxon Economic and Trade Zone, the currency in circulation and settlement currency in the Raxon Economic and Trade Zone is the North Korean Won or the prescribed currency. However, in trade settlement, because North Korean bank settlement cannot be included in the international settlement system, international bank settlement is not applicable to border trade with North Korea, and only settlement methods such as third-country cash transactions and cash transactions can be used, which leads to enterprises. Incurred a large exchange rate difference loss. Some North Korean trading companies conduct letters of credit or one-way payment settlements with Chinese companies through the branches of the Bank of Korea in Macau and the offices of the North Korea Guangxian Financial Corporation. In most cases, it is through the inter-bank transfer between the bank in Pyongyang, the capital of North Korea, and Hong Kong. The procedures are complicated. , The time dragged on for a long time, which slowed down the flow of corporate funds.
The motivation of private investors to invest in North Korea comes from expectations for future returns, not from the increased credibility of the promise to protect property rights. Liaoning Xiyang Group invested in iron ore in North Korea with the expectation of such a wealth and risk.
According to data from the Korea Trade and Investment Promotion Agency (KOTRA), 80% of Chinese investment in North Korea is concentrated in light industry and retail industries, such as seafood processing, clothing, bicycles, hotels, and catering industries. Determined by risk. Investment in fields such as extractive industries, fisheries, manufacturing, logistics and infrastructure construction takes a long time to recover the investment cost, which is much more risky than the retail industry, so small-scale investment is still dominant. Sudden policy changes and contract breaches that are likely to occur in North Korea are systemic risks rooted in North Korea, which discourage potential investors from large-scale and long-term investments. Investors looking forward to real estate speculation in Pyongyang can give up their illusions. Both large-scale and long-term investments are subject to the basic problem of property rights protection, and only some large state-owned enterprises dare to venture into these fields.
Investors who hope that North Korea’s reform and opening up will increase housing prices in Dandong and Hunchun also need to consider in depth. Throughout North Korea’s previous economic reforms, its unique political system determines that it is more inclined to adopt extremely cautious reform measures. The severe internal economy, food crisis, and external threats made the regime choose a political strategy that relies heavily on the army (Songun politics), which in turn aggravated the original economic crisis. According to South Korean estimates, from 1986 to 1996, the defense budget (excluding nuclear programs) accounted for 30% of the total government expenditure, and reached about 50% at the beginning of the 21st century, accounting for 22%-25% of North Korea’s GDP. . The economic failure triggered a vicious circle of anti-marketization, militarization, and stagnant growth, leading to the failure of previous economic reforms in North Korea.
From a macro perspective, to observe whether North Korea can truly embark on the path of reform and opening up like China this time, we need to observe its military arrangements. North Korea needs to reduce the economic cost of maintaining militarization while maintaining military loyalty.
In addition, North Korea also needs to normalize relations with the world's major economies, especially the normalization of relations between North Korea and the United States. This can not only attract foreign direct investment (FDI) and promote trade, but it can also reduce the insecurities of the rulers and cut military expenditures.
Regardless of internal or external factors, North Korea has not yet met these two requirements. In the absence of these two prerequisites, the economic crisis cannot stimulate a successful and comprehensive economic reform plan. This has been proven many times in the history of North Korean reform. Even during the most severe famine in 1994-1997, North Korea only made minor adjustments to the highly centralized planned economy, and did not fundamentally carry out market-oriented and property rights reforms. Not long after the "7.1 Reform" in 2002, new restrictions were imposed on the activities of private enterprises.