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The Case for Kaesong: Fostering Korean Peace through Economic Ties - Asia Report N°300 | 24 June 2019

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The Kaesong Industrial Complex, closed since 2016, was the most successful joint economic venture undertaken by North and South Korea. Reopening the manufacturing zone, with improvements to efficiency and worker protections, could help broker wider cooperation and sustain peace talks on the peninsula.

What’s new? In 2016, South Korea shuttered the Kaesong Industrial Complex, breaking a modest but productive connection between the two Koreas. Crisis Group’s analysis sheds new light on the economic performance of firms operating at the Complex, demonstrating that the benefits for the South were greater than previously understood.

Why does it matter? Beyond helping restart the stalled peace process, a deal to reopen the Complex in exchange for a proportionate step toward denuclearisation by North Korea could produce mutual economic benefits that help sustain South Korean support for talks and encourage Pyongyang’s commitment to peaceful relations.

What should be done? As part of any deal to reopen the Complex, Seoul and Pyongyang should take steps to address problems that previously kept it from reaching its potential. The more efficiently, profitably and fairly it works, the better the Complex can help foster and maintain stable peaceful relations between the Koreas.

Executive Summary

The Kaesong Industrial Complex was the most successful joint economic initiative launched by North and South Korea during the South’s pro-rapprochement “sunshine policy” era (1998-2008). As this report shows, this inter-Korean manufacturing zone, which operated from December 2004 to February 2016, was more economically beneficial, in particular for the South, than was recognised at the time. Reopening Kaesong as part of a package of mutual steps – including proportionate North Korean measures to circumscribe nuclear and missile capabilities – could therefore have multiple benefits. Not only might it generate badly needed momentum for stalled peace talks, but it also could begin bringing the economies of North and South closer, serving as an ongoing reminder to key constituencies in both countries of the benefits of building a sustainable peace on the peninsula.

In order to understand why reopening Kaesong should be attractive to both Seoul and Pyongyang, however, it is important to look at the history of the Complex and the benefits it generated – as well as what those benefits meant to each country. For the North, the benefits were clear enough: foreign investment in its infrastructure, employment for its people and much-needed revenue in hard currency.

But for many South Koreans, the benefits were less clear. One reason may be that the Complex operated for most of its tenure against the backdrop of declining inter-Korean relations. Time and again in the Complex’s twelve-year history, North Korean actions shook faith in the South that joint ventures like Kaesong could help reduce inter-Korean tensions. These actions included four nuclear tests (2006, 2009, 2013 and 2016), the shooting of one unarmed South Korean citizen (2008) and five-month detention without charge of another (2009), and the sinking of a South Korean naval vessel and shelling of a South Korean island (both 2010). In 2013, following its third nuclear test, Pyongyang closed the Complex’s doors for five months for reasons that remain unclear. In 2016, as tensions on the peninsula mounted in the wake of the North’s fourth nuclear test, South Korea shuttered the Complex altogether.

But another reason the picture for South Koreans is clouded may be the paucity of data analysis showing how the Complex benefited the South Korean firms that invested in operations there. In this report, Crisis Group seeks to fill that gap. The analysis presented here shows how – despite deepening political challenges and even as other engagement efforts fell by the wayside – the Complex offered meaningful economic benefits to the South as well as the North. Focusing on the period 2007-2014, this report demonstrates that South Korean firms with subsidiaries operating at Kaesong showed average annual increases in revenues (by 8 per cent), fixed assets (by 26 per cent) and profits (by 11 per cent). These growth figures are all the more striking given that during the same period other South Korean firms in the same industries were in decline.

The purpose in airing these figures is not to suggest that reopening Kaesong would benefit the two Koreas equally. Even in its strongest years of operation, the revenues that the Complex produced for South Korean firms were only a fraction of 1 per cent of South Korea’s gross domestic product. By contrast, the hard currency receipts that the Complex generated for the North – possibly over $100 million a year at the peak of operations – were much more significant. In this sense, reopening Kaesong would unquestionably be a concession to the North.

Nevertheless, a fuller appreciation of how the benefits of Kaesong flowed in both directions during its last period of operations – and the prospect that this would happen again should Kaesong reopen – has important implications for the peace process. While the South Korean government has long made it plain that they would like to clear the way for Kaesong to reopen, there is still work to do in generating political support among the South Korean public. Information about how much a reopening could benefit South Korean firms may help sustain public support for ongoing talks that could help bring about that result. Moreover, should the Complex reopen, it presents a new opportunity for deepening North-South economic cooperation that can help cement ties between the two nations and create a counterweight to future escalatory cycles.

Of course, there are lessons to be learned from the joint venture’s last incarnation should it reopen. While fully insulating operations from political tensions on the peninsula may not be possible, the two countries should make every effort to buffer it from those risks, so that it has the opportunity to reach its potential. It will also be important to loosen economically inefficient controls that constrained operations during the Complex’s first incarnation. Taking steps where feasible to expand direct communication between managers in North and South Korea, allowing South Korean firms greater control over hiring and training, and increasing protections for workers would make the Complex work more fairly, efficiently and profitably – and help it become a model and driver of peaceful cooperation between two nations struggling to leave war behind.