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The Kaesong Closure: Punishment or Shot in the Foot?

12 February 2016

On February 10, 2016, the South Korean government decided to cancel cooperation with North Korea in the Kaesong Industrial Zone (KIZ, or simply Kaesong), arguing that the income from the zone had been used by Pyongyang to finance its nuclear and missile programs. One day later, the North froze all assets, expelled all South Koreans and declared the zone a military security area.

About 15 years ago, the plans for Kaesong were ambitious: a complex with jobs and living quarters for one million people, including an artificial lake and three golf courses. The city of Kaesong in the upper left corner looks like a village in comparison. Photo © Rudiger Frank

The joint industrial park was a major product of the sunshine era of presidents Kim Dae-jung and Roh Moo-hyun, at some point aiming to employ as many as one million North Korean workers in South Korean enterprises. The area is situated right at the Demilitarized Zone (DMZ), only 70 km away from Seoul, in one of the few potential invasion corridors in the otherwise mountainous Korean territory. The project was thus, from the outset, met with some skepticism by the North Korean military but economic and political reasoning prevailed.

Kaesong had been closed before; in 2013, North Korea interrupted its operation in protest over joint military maneuvers of South Korean and US forces. South Korea, however, always insisted that Kaesong had to be treated separately from all the ups and downs of inter-Korean relations. It seems this has changed now, but why?

If we assume that all wages were transferred to the government, the income North Korea was able to generate from operating Kaesong was about US$ 100 million annually, less than one percent of its annual trade volume. One could argue over the significance of that amount; it is certainly no small change for a country that has very limited options of acquiring hard currency. At the same time, it is also not an amount that would make or break the North Korean economy. Obviously, South Korea has for many years shared that assessment, otherwise it would have closed the zone much earlier. So what benefits has South Korea gained from Kaesong?

To begin with, there were economic benefits from exploiting cheap North Korean labor. Over 50,000 Korean-speaking women, well educated, disciplined and tightly controlled by Pyongyang helped a number of South Korean sunset industries (textiles, shoes, watches, etc.) survive. The wage level in South Korea is way too high for producers with high inputs of labor who need to be price competitive. Their alternatives would have been to go to China or Southeast Asia, or to exit the market altogether. Semi-finished products from South Korea were brought to Kaesong, value was added, and they were sent back to South Korea for further processing or to be sold to the final user. Kaesong thus secured South Korean jobs and profits.

But, more importantly, Kaesong was a huge propaganda machine. I have visited the zone a couple of times since 2004 and compared it to the working environment I knew from regular North Korean factories. In Kaesong, everything was clean, bright and modern—a perfect showcase.  The employers also provided meals and snacks to their North Korean workers who couldn’t help but believe that what they learned from illegally watching South Korean soap operas was true: that the South was a land of plenty. In a subtle way, even South Korean language was smuggled in: the restrooms were marked “Hwajangsil” (powder room), rather than “wisaengsil” (hygienic room) as anywhere else in North Korea. Now, those once lucky girls have lost their jobs. Does anybody seriously believe they will blame Kim Jong Un for this? It clearly wasn’t he who closed the factories. To hope that he will be held responsible by the “Kaesong 50,000” is a long shot.

Furthermore, it is simply impossible that years and years of close day-to-day contacts with tens of thousands of young North Koreans would not have yielded rare, systematic and valuable insights into an otherwise essentially closed country. Seemingly innocent information (what music do you like) and more substantial data (how happy are you) have continuously flowed into the office of the South Korean intelligence service, providing a barometer of the mood in North Korea.

Last but not least, with all other channels closed, Kaesong was one of the few, if not the only option for an informal dialogue at times when bilateral talks were officially impossible but urgently necessary to prevent an escalation or to smooth the way to better relations. The existing hotlines have now been cut at a time when the next round of military maneuvers of South Korean and US troops will likely trigger an angry response from Pyongyang.

These were all good reasons for Seoul to keep the KIZ open despite, or perhaps rather because of the otherwise rocky relationship with Pyongyang. But that era is now over and Kaesong has been closed. There is no doubt that it is the sovereign right of any state to cancel joint economic projects and to withdraw investments, but was it a wise decision?

The rationale for closing Kaesong seems to be that North Korea has to be punished for the January 6 nuclear test and the February 7 rocket launch and that this time the punishment has to be different. Pyongyang will miss the US$ 100 million annually, but will it miss the money enough to trigger a change in its behavior? That is far from certain, given that this amount of money is merely a fraction of North Korea’s exports to China. And there are many options to make up for the loss; among the wildcards in this respect is Russia, a country that is perhaps even less inclined than China to adhere to US demands for sanctions.

The South Korean Ministry of Unification argues that the revenue from Kaesong has been used to upgrade North Korea’s nuclear weapons and long-range missiles, however with little evidence. It’s not like payments were made in cash with marked notes that could be clearly tracked. For that matter, the same could be said for any payment to North Korea, for example in the context of tourism or trade. But will it be legally possible to ban free citizens of Western countries, not to mention China, to travel? And would this be a good idea? As an East German, I can only repeat how deeply subversive the experience of observing, let alone interacting with, West Germans was before unification. And let’s not forget that money that ends up on the markets in North Korea helps the non-state part of the economy to flourish and strengthens the new middle class that has developed over the past decade or so. Cutting all this off would be a stupid thing to do for any government that aims at economic and other reform in North Korea.

It would also be interesting to know which components of the North Korean nuclear and missile programs really depend on imports. Given the harsh sanctions and the proud claims of the Pyongyang government, it seems that after decades of research and initial external input, the programs are currently more or less indigenous. If this is true, then a reduction in hard currency income will achieve nothing.

In addition, it is yet unclear how the government in South Korea—often called East Asia’s most developed democracy—came to this decision. For a step of such significance, and considering the potential countermeasures by the North, one would hope that it had been discussed in Seoul thoroughly with all relevant parties, particularly the businesses who suffer directly from the closure, and the opposition parties.

Although it might be too early to tell, unlike in previous cases when Kaesong was affected, it seems that the South Korean decision to close the zone is not a temporary signal, but a permanent decision. Given the many positive aspects of that project as mentioned above, it would not be a very forward-looking step. Where do we pick up when things calm down again, as they have always done? The fate of the Mt. Kumgang tourism project is not very uplifting in this regard. It was closed in 2008 after one million South Koreans had a chance to visit North Korea. Rather than opening another tourism project with South Korea or giving in otherwise, North Korea turned to China—successfully, as it seems—with now about 100,000 visitors annually.

Something similar could happen this time if Pyongyang improves conditions for investment in the Northern zones of Sinuiju and Rason, or in any other of the over two dozen special economic zones across the country. The case of China has shown that concerns over human rights or the freedom of Tibet have not deterred Western enterprises from investing, as long as the chances for making profits were big enough. North Korea, with its abundant natural resources and its proximity to China, has even greater potential than South Korea before its “economic miracle.” The case of Japan shows that North Korea is able to react quickly to changing conditions. Until 2001 Japan was North Korea’s biggest trading partner; the failure to resolve the abductee issue reduced this trade to almost zero, but North Korea found new partners while Japan lost a major source of influence and intelligence.

In return for depriving North Korea of a relatively small amount of money which has questionable relevance for its nuclear and missile programs and will  likely be made up for from other sources, South Korea gives up substantial economic, political and intelligence benefits. Some politicians might hope this move makes a strong statement ahead of the South Korean parliamentary elections in April. However, it is in the eye of the beholder whether the balance is positive or negative.

In my view, Seoul has lost much more than it gained; and beware, the story isn’t over yet. If history serves as a guide, Pyongyang will retaliate quickly, and mercilessly. The two tests were intended by Kim Jong Un, in part, to serve as a show of strength to impress a domestic audience ahead of the upcoming Party Congress in May. In order not to appear weak, he will have to react swiftly to Seoul’s cancellation of the Kaesong cooperation. The closure of the highway and the cutting of the communication lines as well as the scathing criticism of South Korea’s president are most likely just the beginning. Pyongyang has already called the closure “a declaration of war.” Military clashes in the West Sea and along the DMZ can be expected, as well as new weapons tests. All this happens at a time when the United States and South Korea hold joint military maneuvers at the North Korean border, which only adds to the danger of escalating a situation that is already more than tense.

Reader Feedback

12 Responses to “The Kaesong Closure: Punishment or Shot in the Foot?”

  1. Mogy says:

    It is indeed a good question why South Korea reacts only now to North Korean “provocations”; maybe Kim Jong Un simply has gone too far, as seems to be the case in relation to China, as well.

  2. Rudiger Frank says:

    Dear all,
    thank you for your thoughtful comments. I think we agree that the closure hurts NK economically. We also agree that Seoul now has less access to North Korea(ns). Opinions differ on the relative size and relevance of these effects.
    However, what we still haven’t clarified is: why (only) now? If Seoul wins so much by closing the KIZ, why has the zone been left open despite Cheonan 2010, Yeonpyeong 2010, the 2009 nuclear test, the 2013 nuclear test, the 2015 landmine, and so forth?
    Talk is cheap; actions matter. The South Korean government (conservative since 2008) has been unhappy with North Korea’s nuclear program and other policies for many, many years. But Seoul’s actual behavior regarding the Kaesong zone has only now been changed. I dare taking the fact that they have left Kaesong open until Feb. 2016 as proof that until very recently, their assessment of the costs and benefits of the zone corresponded with mine. I wonder how and why this has changed.
    Rudiger Frank

  3. Max says:

    South Korea’s economy is 44 times the size of North Korea’s. In reality, the North has more to lose from the closure of Kaesong than the paper figures of 100 million dollars. The author cited loss of economic, diplomatic, and psychological (or propaganda) benefits on the part of Seoul and concluded “Seoul has lost much more than it gained.”

    In my view, Seoul’s political gains at this juncture may be much greater than all those losses combined. Enough psychological damage to the North has been done through the Kaesong Industrial Complex already. I hope Seoul’s decision will serve as a turning point in its handling of the Pyongyang regime. Changing the menus occasionally may be a good idea? After all, war is a racket, as General Smedley Butler put it in a very pointed manner.

  4. smyrgl says:

    Your article is mostly a fair synopsis of the situation but the closure of Kaesong is a bigger deal for North Korea than you might think. Yes it might only be 1% of their overall economy but critically it was in the form of $USD and foreign currency reserves are crucial to North Korea being able to sustain themselves. This is a much bigger hit for them then the raw numbers might suggest and an economy like theirs that runs itself with abnormally high war spending desperately needs foreign currency to keep itself going in the long run. Adam Tooze showed how important this was in his work The Wages of Destruction in regards to Nazi Germany and the economic direction of North Korea is similar enough (abnormally high GDP spent on war production) that it is a pretty good comparison.

  5. keve says:

    Good article indeed…
    North and South Korean civilians were given the opportunity to work and earn a honest living for their family. There are enough poverty in South Korea and in North Korea, and this economic joint opportunity was sacrificed over military and political imposition, specifically for nuclear strategic advantage. Perhaps, word “democracy” should be better taught or taken more seriously; one nation’s citizens’ choice and voice determine the faith and future of their nation, NOT by voice and choice of non-citizens who does NOT even reside in North Korea. Surely South Korea and USA fully recognize this RIGHT as a nation, but somehow this “democratic” value or RIGHT is lost against North Korea. You cannot expect North Korea to drop their own nuclear-national defense just because South Korea and Japan politicians decided to do so under the “economic influence” of US economy. With little to no positive influence over North Korea along with negative-influence of military conflict between North Korea and USA, sanction will never work against North Korea, but perhaps only work as preemptive plan for war later as history prove to be reality. I wish for peaceful united Korea whether it chooses to be ally of USA or China/Russia, or to ALL sides, when Koreans(south) can enforce their own voice and choice within Korea with their own security to protect its values.

  6. Excellent, cogent article. I wrote in similar vein:
    and an edited version in The Guardian:

    But I fear we are outnumbered, at least in the US and ROK. Impatience is rampant. That is understandable, but I don’t see how it resolves anything.

    To be continued…

  7. Roland says:

    Alexander Galushka recently:
    The Russian side will proceed as planned with its projects of economic cooperation with the North Korean side.
    Obviously he wasn´t expecting an UN-resolution cutting of North Korea from the rest of the world.
    And he will be right.
    Blue house fruitless action looks like politics in a “kindergarden”.

  8. nathan says:

    Couldn’t you apply many of the same arguments used here to criticize any sanctions regime?

    Some examples: The sanctions don’t effect a large enough portion of their economy. We don’t know that they use the money from this for nefarious purpose as we don’t track the money. Sanctions mean they will just trade with someone else anyways. Sanctions cut off valuable cultural interchange.

    I have long been skeptical of sanctions myself but if military force is off the table and most diplomatic avenues are exhausted, what else is there? Ultimately, the point of sanctions is less about their economic impact than it is about making a concerted statement of disapproval. South Korea doesn’t seem to have many options so they must have decided that making a strong statement was worth sacrificing whatever subversive impact and economic benefit Kaesong provided.

  9. Samuel Lee says:

    R. O Neil. How about:

    1) The direct violation of Armistice Agreement in 1958 by South Korea where it start to acquire Nuclear Weapons from US?

    2) The “torpedoed ROK naval vessel” is always disputed and not even UN pin-point NK is the culprit.

    3) Blewing up airliners & killed South Korea diplomats in Burma are the reasons why North Korea was included in the list of state sponsored terrorism, but since then it was removed G.W Bush and therefore it is no longer valid reason.

    4) The Blue House Raid was answered by Unit 684. Two wrongs does not make it a right anyway.

    5) Axed US officer to death? Haha, how about US officer intrude to North Korea’s territory as the tree located right at the point separating both Koreas?

    To gil-kyun shin:

    The North Korea strategy is clear. Kim’s New Year Speech has addressed his desire to develop his country’s economy as the first priority.

    But without security guarantee with a real peace treaty instead of truce, nothing can achieved. Peaceful AND smooth unification process is not possible when the disparity between the two are so great.

    Germany unification has some big price and it was not smooth in the initial years. The South Koreans will have even worse experience and they are fear of that.

    Kim wants to emulate Mao did to China with the project “两弹一星”. (literally means “two bombs and one star”, namely “核弹” – nukes, “洲际导弹” – icbm and “卫星” – satellites)

    The “2 bombs 1 star” (Nukes, ICBM, Satellite) project from PRC had eventually won diplomatic recognition from Japan and US by 1972 which was then at the height of Cultural Revolution and no signs that China would embarked into what today’s China.

  10. Dr Ahmad Rashid says:

    Kaesong was a good opportunity for North Korea to earn its bread and butter. North Korea killed the opportunity by itself.

  11. R. ONeil says:

    The South Korean government had a apparently finally decided that providing $100 million of direct aid to Kim Jung Un is not in their best interests. Whether he spends the money on his nuclear or missile program or on purchasing Mercedes or scotch to bribe his elite and keep himself in power makes little difference. To intimate that Seoul will be sorry because Kim will retaliate, makes little sense. North Korea has shot down unarmed aircraft, attacked the Blue House, killed South Korea diplomats in Burma, blew up a South Korean airliner, torpedoed a ROK naval vessel, axed a US officer to death, etc., etc. Kim needs little provocation to perpetrate his next crime. Maybe it’s time to decide that “business as usual” is not the correct course. Maybe a little “push back” instead of letting him get away with it will provide different results?

  12. gil-kyun shin says:

    It is good analogy and well written. I might add that the Kaesong decision by the Seoul government shows that their patience just ran out. I’d also look from a deferent angle as to previous incident from both sides. I agree with your analogy that the Seoul government has very little to gain for now. It may bring more unified sanction, American, European and U N. against North.
    I’d like to read more about North strategy after their long range missile test.

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Credit for photo of young North Korean girl: T.M. All rights reserved, used with permission.