The Kaesong Trap: Restarting the industrial zone may restrict Seoul’s ability to respond to the North’s provocations

August 18, 2013, 1:03 p.m. ET

The Kaesong Trap

Restarting the industrial zone may restrict Seoul’s ability to respond to the North’s provocations.

BRUCE KLINGNER

South and North Korean negotiators reached a preliminary agreement last week to reopen the jointly run industrial zone in Kaesong. But their success against considerable odds raises several questions.

Most fundamentally, why does Seoul want to return to Kaesong in the first place? The benefits lop-sidedly accrue to Pyongyang, providing a steady source of hard currency to the beleaguered regime. On the southern side, there is no economic incentive, corporate advocacy or political interest in expanding the complex. Even before the most recent round of North Korean threats, Kaesong was on life-support.Economically, Kaesong is simply not viable. When the complex opened in 2004, advocates predicted meteoric expansion, fueled by an ever-increasing number of South Korean and foreign firms. But no large South Korean company ever joined it. Foreign investors avoided an enterprise hounded by frequent production stoppages, security risks, and Pyongyang arbitrarily nullifying existing contracts to demand higher wages and retroactive taxes.

Politically, the Kaesong experiment has also failed. Proponents of engagement with Pyongyang argued that North Korean worker exposure to southern counterparts would induce broader reform in the hermit kingdom. These predictions proved hopelessly naive. As Pyongyang announced last year, “To expect policy change and reform and opening from [North Korea] is nothing but a foolish and silly dream.”

Engagement advocates assert that maintaining Kaesong, along with diplomatic outreach and providing humanitarian aid, provides some level of protection against North Korean provocations. But the Kaesong venture did not constrain North Korea from twice attacking South Korea in 2010. Nor did Kaesong or the South’s offer to re-engage and delink humanitarian assistance from progress on denuclearization prevent Pyongyang from threatening Seoul with nuclear annihilation earlier this year.

An even more troubling aspect of last week’s agreement is the way it may needlessly constrict Seoul’s ability to shut down the venture in response to future North Korean provocations or attacks. It reportedly contains a provision that “South and North guarantee the industrial zone’s normal operation without influence of any kind from the political situation.” Has Seoul just guaranteed Pyongyang that it will never sever its involvement in Kaesong even if North Korea attacks again?

South Korea should always retain the option to pull the plug on Kaesong as part of more comprehensive sanctions. That flexibility is fundamental to President Park Geun-hye’s strategy known as trustpolitik, or “trust-building.” This is a continuation of her predecessor Lee Myung-bak’s conditional approach, though applied more deftly, that rewards the North for good behavior and punishes it when it stages provocations.

After the sinking of the South Korean naval vessel Cheonan, for example, President Lee severed all inter-Korean economic dealings, though he exempted Kaesong. Mr. Lee’s actions reduced Pyongyang’s access to foreign currency.

Mr. Lee, elected in 2007, dropped Seoul’s ideologically driven engagement policy by requiring that any future inter-Korean ventures be economically viable. He still offered significant developmental assistance aimed quintupling North Korea’s per capita GDP, but only if Pyongyang began to live up to its previous denuclearization pledges.

For this, Mr. Lee was condemned as an unreasonable hardliner by uber-engagers who held the South Korean president responsible for North Korean belligerence and intransigence. South Korean progressives even blamed Pyongyang’s sinking of the Cheonan and shelling of a civilian island, which killed 50 citizens in 2010, on Mr. Lee’s requirement for conditionality and reciprocity when engaging the North.

Unlike her predecessor, President Park’s approval rating remains high, buoyed both by her political acumen and resolve in standing up to Pyongyang’s threats. And if there is a silver lining in the Kaesong agreement, it is that Ms. Park has shown the correct way to negotiate with the North. By holding fast to its conditions, her administration did achieve some necessary guarantees against Pyongyang again leveraging the Kaesong enterprise to stymie the policies of the South and its allies.

The agreement also shows that international pressure can have an effect on North Korea when it threatens the regime’s economic lifelines to the outside world. Incrementally tougher sanctions have impacted regime finances, though their impact is undermined by half-hearted Chinese implementation.

Perceptions that the new Chinese leadership has adopted a tougher policy toward its North Korean ally have not yet been borne out by firm evidence. To date all Chinese enforcement measures, such as the Bank of China severing ties with Pyongyang, were later rescinded.

The new agreement is testament to Ms. Park’s principled stand against having Seoul once again make unilateral concessions in order to resume its extortion payments to Pyongyang. She was willing to have her negotiators walk away from the table if they didn’t attain necessary provisions. For this, she should be strongly commended.

Nevertheless, while this inter-Korean agreement is better than those achieved in the past, Seoul should proceed cautiously, if at all.

Mr. Klingner is a senior research fellow at the Heritage Foundation and previously served as the CIA’s deputy division chief for Korea analysis.

About bambooinnovator
Kee Koon Boon (“KB”) is the co-founder and director of HERO Investment Management which provides specialized fund management and investment advisory services to the ARCHEA Asia HERO Innovators Fund (www.heroinnovator.com), the only Asian SMID-cap tech-focused fund in the industry. KB is an internationally featured investor rooted in the principles of value investing for over a decade as a fund manager and analyst in the Asian capital markets who started his career at a boutique hedge fund in Singapore where he was with the firm since 2002 and was also part of the core investment committee in significantly outperforming the index in the 10-year-plus-old flagship Asian fund. He was also the portfolio manager for Asia-Pacific equities at Korea’s largest mutual fund company. Prior to setting up the H.E.R.O. Innovators Fund, KB was the Chief Investment Officer & CEO of a Singapore Registered Fund Management Company (RFMC) where he is responsible for listed Asian equity investments. KB had taught accounting at the Singapore Management University (SMU) as a faculty member and also pioneered the 15-week course on Accounting Fraud in Asia as an official module at SMU. KB remains grateful and honored to be invited by Singapore’s financial regulator Monetary Authority of Singapore (MAS) to present to their top management team about implementing a world’s first fact-based forward-looking fraud detection framework to bring about benefits for the capital markets in Singapore and for the public and investment community. KB also served the community in sharing his insights in writing articles about value investing and corporate governance in the media that include Business Times, Straits Times, Jakarta Post, Manual of Ideas, Investopedia, TedXWallStreet. He had also presented in top investment, banking and finance conferences in America, Italy, Sydney, Cape Town, HK, China. He has trained CEOs, entrepreneurs, CFOs, management executives in business strategy & business model innovation in Singapore, HK and China.

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