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The Economics of Korean Reunification

Can South Korea’s sunshine policy work?

South Korean president Kim Dae-jung.

By Ron Chepesiuk

Last June, South Korean President Kim Dae-jung journeyed to North Korea to meet with that country’s leader, Kim Jong Il, in a move he hoped would begin a process leading to better relations with North Korea, and eventually to Korean reunification. The meeting was considered a success.

Since then, Kim Dae-jung has won the Nobel Peace Prize. And more importantly, the two countries have forged closer ties: the rail lines between the North and South have been reconnected, economic relations have strengthened, and some families separated some 50 years by the Cold War have reunited.

The slogan that has come to describe Kim Dae-jung’s initiative — the “Sunshine Policy”— puts the historic development in perspective.

“The Sunshine Policy has as its goal the reduction of tensions between the two Koreas, and the creation of reconciliation and peace on the Korean peninsula,” explained Balbina Hwang, a policy analyst at the Asian Studies Center of the Heritage Foundation, a Washington, D.C.-based think tank. “But the policy doesn’t aim for reunification of two Koreas, per se, although that’s the explicit, long-term objective.”

POLICY LOSES MOMENTUM

In recent weeks, however, the momentum that Kim Dae-jung built for his policy of engagement has slowed. South Korea worries about what it perceives as a hardening of the U.S. position on its Sunshine Policy. Kim went into his meeting with President Bush in March, believing he had an opportunity to explain policy to the new administration first hand. In the end, though, observers viewed the visit as a setback for the South Korean president.

“In their meeting, Bush argued for a more skeptical policy toward North Korea, and advised Kim Dae-jung to move more cautiously in his dealing with the country,” said Marcus Noland, author of Avoiding the Apocalypse: The Future of the Two Koreas.

More concerns were raised about the state of the Korean reunification process last February 22, when North Korea threatened to back out a 1994 agreement that would phase out of its nuclear program. The threat, said some observers, was North Korea’s response to what it sees as a tougher U.S. policy.

Then last March, North Korea publicly attacked South Korean defense minister Kim Dong-shin for the comments he made after assuming his office in a cabinet re-shuffle. North Korea blasted Kim for advocating closer military cooperation with the U.S., and retaining a defensive posture toward the North, as reunification dialogue continued.

Moreover, no substantive progress has been made in diminishing the conventional and military threats that North Korea poses.

“We know so little about the North Korean regime, and despite the flurry of diplomatic activity on its part to establish relations with the rest of the world, the country has shown no indication that it has begun changing or altering its system in any way,” Hwang said.

THE HIGH COST OF REUNIFYING

The challenges are formidable, as the long-term goal of reunification is pursued. In particular, South Korea’s still ailing economy continues to be an obstacle.

The cost projections for reunification vary among Korean experts. Some, like Noland, believe that price tag could be moderate if the process of reunification is managed well.

“After studying the issue, I’ve concluded that South Korea can go down the path to reunification for about $1 billion to $2 billion a year,” Noland said. “That isn’t a lot of money, but the more ambitious the reunification process, the higher the price tag becomes.”

However, other sources, including the World Bank, have put the total cost as high as $2 trillion to $3 trillion — about five to six times South Korea’s Gross Domestic Product (GDP).

“Look at the population difference between the Koreas and Germany and you can see the burden on South Korea will be 10 to 20 times what it was for the [West] German government,” Beck predicted.

Hwang doesn’t find the analogy to Germany particularly applicable to Korea. She added, however, that the enormous cost West Germany has had to bear for reunification should teach South Korea a lesson. “Assuming that reunification involves South Korea absorbing the North, the South Korean economy is too unstable at this point to withstand such costs,” Hwang said. “South Korea will need to continue rebuilding its economy over the next several years before even attempting to contemplate how to absorb the North.”

SURVIVING THE CRISIS

Most importantly, South Korea must implement a major restructuring of its economy, if the economics of engagement are to work. In 1997, South Korea, like the other Asian countries, was brought to its knees from the severe economic downturn. The South Korean government was forced to request an emergency reserve fund of $56 billion from the International Monetary Fund (IMF) to bail itself out from what could have been a disastrous foreign exchange crisis.

The aid package was enough to restore South Korea’s economic stability. After more emergency negotiations, a dozen major banks worldwide provided $15 billion worth of short-term loans, and South Korea was on the road to a remarkable economic recovery by the end of 2000. The GDP, which had fallen to 6.7 percent in 1998, jumped to 10.7 percent the following year, and in 2000 it stood at a respectable 8.9 percent. Interest rates also fell, while the current account surplus rose, and the foreign reserves jumped to $92 billion from the $3 billion level after the 1997 Asian crisis.

Despite the country’s impressive gains, the Korean Development Institute reports that economic growth is expected to slow to 5.4 percent this year. Meanwhile, high oil prices have sparked inflation, while unemployment has been creeping up, from 3.6 percent in September, 1999 to 4.4 percent in December, 2000.

“South Korea has made remarkable progress, but it still fully hasn’t recovered from the Asia crisis,” said Kent Kedl, a Minneapolis, Minn.-based executive with Technomic Asia, a consulting firm. “It has done better than Japan, but the monopolistic concentration of power that continues to dominate its economy hasn’t helped the recovery.”

RESTRUCTURING

The huge monopolies or conglomerates that Kedl alludes to are the so-called chaebols, companies such as Hyundai, Samsung, LG and SK, which have dominated Korea’s modern economic expansion.

The challenges South Korea faces in restructuring the chaebols is well illustrated by recent developments at Hyundai, one of the biggest of the country’s family-controlled conglomerates. Hyundai has accumulated more than $46 billion worth of debt, and investors have demanded that the company be broken up, and, moreover, the family retired from the business. Last year, after lenders refused to give it short-term loans, Hyundai announced a hastily constructed restructuring plan that included the retirement of Chung Ju-yung, Hyundai’s 84-year-old founder.

Last September, the Hyundai Motor Group was separated in terms of equity ownership from the rest of the ailing Hyundai chaebol, while the Hyundai Group is expected to lose control of its ownership of construction, heavy industries and financial services affiliates by the end of the year. In April, the Korean Trade Commission (KTC) announced its listing of the 30 largest chaebols. Hyundai failed to top the list for the first time since the KTC began its annual list in 1993.

“The new list reflects improved practices among the top chaebols,” Oh Sung-hwan, the KTC director in charge of monitoring Korea’s largest companies, told the Korean Herald. “This can be attributed to the fruit of the past restructuring effort and a shift toward profit-oriented management.”

Developments at Hyundai show that South Korea is moving slowly ahead, experts say. “The country’s restructuring problems are much more serious than those of Japan, but I think the progress it has made in the past three years has put it way ahead of Japan,” Nowland said.

FEW OTHER SOURCES

Restructuring is imperative if the Sunshine Policy is to move forward because other sources of money are limited. The World Bank and the Asian Development Bank are obvious sources of aid, but the United States is opposed to providing international assistance to North Korea for political reasons. The United States has put North Korea on its list of states that sponsor terrorism, and by law, it can’t support its membership in regional and international financial institutions, even if it wanted to.

The only big source of financial aid is Japan, but any assistance will be complicated by the various reparation claims South Korea has pending against Japan. “There will be a financial component to the normalization of Japanese-Korean relations, and it’s going to be in the billions,” said Noland. “But Japan has its own economic problems,” Noland pointed out. “And it’s going to want to claim the money it’s giving North Korea for famine relief in any financial assistance it gives.”

If the Sunshine Policy continues to go forward after Kim Dae-jung leaves office in less than two years, no one foresees political unification of the two Koreas as the ultimate outcome of economic engagement. North Korea is the obvious loser if reunification were to happen. Not only would the country’s hopeless economic system dissolve, but its Stalinist political system would also crumble.

Said Hwang: “The regime in the North will not be willing to relinquish its control and submit to, or become absorbed into, the South’s system,” she said. “Therefore, unification can only come when the regime has lost its control in the North. That’s why I’m pessimistic about the prospects for a peaceful or stable reunification in the short term. For that to happen, the North’s regime would have to collapse.”