What a 1991 CIA Assessment on North Korea Tells Us about the Current Crisis

The current situation is no ordinary escalation of tensions on the Korean peninsula. Those happen with regular frequency, but tend to fizzle out after a few days or weeks. Not so this time. Rhetoric is certainly more extreme than it has been in the past. North Korean Foreign Minister Ri Yong Ho’s declaration on September 25th that North Korea reserves the right to (note: not that it “will”) shoot down American bombers even in international airspace is an eerily concrete threat. Its logic is easy to understand: in a situation as tense as this one, North Korea cannot be sure whether approaching bombers are merely intended to signal U.S. resolve in its defense of South Korea, or if they are out on a mission. When tensions run as high as they do right now, the potential for misunderstandings between the two parties poses enormous risks.

The tone and context of the statement matters. North Korea has accused other countries of making “declarations of war” against it on numerous occasions, just like its foreign minister did in New York on September 25. North Korea’s Foreign Ministry, for example, claimed in 2016 that a U.S. State Department report release on human rights in North Korea constituted a declaration of war. But with the overall bluster, it is harder for the parties to read each other’s true intentions through the chatter.

In many ways, however, not much has changed on the Korean peninsula for the past few decades. North Korea’s rapid development of its nuclear weapons and missiles (including ICBMs) has certainly been a game changer, but many of the basic dynamics have remained the same since the fall of the Soviet Union, throughout North Korea’s nuclear crises. A look back into the archives provides a fascinating reminder that situations and dynamics that we explain and analyze time and time again often haven’t changed for several decades.

By the end of the 1980s, the U.S. first saw, on satellite images, what looked like the construction of a nuclear reactor near the North Korean town of Yongbyon. Together, with the international community, it began to demand that North Korea allow international inspections of its nuclear facilities under the Non-Proliferation Treaty, which North Korea was still a party to at the time.

What tools did the U.S. consider using to pressure North Korea into compliance? One that should be familiar to basically every human being on the planet within listening range to TV news by now: economic sanctions.       

A look in the archives of the Central Intelligence Agency (CIA) reveals some assessments that the agency made about how well sanctions could function. And here is where things get very familiar. One memo drafted by the National Intelligence Council in December 1991 shows that much of the reasoning of the time around North Korea’s reactions to sanctions, as well as those of its neighbors, have remained very similar till this day. Let us look at some of the key analyses of the memo, one by one (some are shortened for simplicity):

  • “. . . economic sanctions per se would not cause North Korea to abandon its nuclear weapons program.”

This, U.S. intelligence assessed 26 years ago. North Korea has been under various UN sanctions since 2006, which did little or nothing to prevent them from acquiring a nuclear deterrent. The ambitions for a nuclear deterrent have always been stronger than Pyongyang’s fear of sanctions, especially when these largely lack impact because of China’s unwillingness to enforce them. And now, here we are.

  • “Foreign trade plays an important role in key sectors of North Korea’s economy. P’yongyang imports all of its crude oil, coking coal, and advanced technology, and 25 percent of its needed food grains.”

North Korea today exports far more coal than it imports (before the latest rounds of sanctions, that is). Though the data is uncertain, it is likely far less dependent on outside imports of food than it was in 1991. Still, the basic tenets hold. North Korea depends on the outside world for crucial resources, most notably crude oil.

The memo notes further that: 

  • “A trade embargo – if fully respected and enforced – would cause a significant falloff in production and impose severe hardships on the North Korean populace. A curtailment of crude oil shipments would be particularly troublesome and would lead to industrial shutdowns, restricted transportation, and reduced agriculture and fishing.

And, further down in the document:

  • “The cutoff of oil deliveries would probably cause the regime to accelerate the shutdown of even essential industries and move to inefficient alternative forms of transportation – ox carts, bicycles, and charcoal-burning vehicles . . .”

There is currently no full trade embargo on North Korea. But under the current sanctions, and mainly due to China’s enforcement of them, a number of the results above are creeping into the economy. The fishing industry is suffering under the ban on seafood exports, and likely due to increased fuel prices as well. Should China continue to restrict its exports of oil, the transportation sector that supports the private market economy will also suffer. Agriculture, however, remains poorly mechanized—it largely reverted to manual methods after the famine in the mid-1990s when fuel became extremely scarce, so the predictions of the memo largely came true there as well, only through a different process.

But then, as today, the “if” on full respect and enforcement of a trade embargo was a big one:

  • “Most of the North’s trading partners would be reluctant to impose, much less to enforce, economic sanctions. China’s role would be key, and we believe Beijing would strenuously oppose – and assist P’yongyang in evading – an embargo.”

And, further down:

  • “We believe China – which has publicly opposed pressure tactics against the North – would not support trade sanctions and would veto UN action either to impose or militarily enforce an embargo. At a minimum, we believe Beijing would break the embargo by expanding trade with North Korea in an effort to preserve the P’yongyang regime. In particular, China would probably provide needed food and medical supplies, and could also increase oil deliveries . . .”

Again, no embargo is in place against North Korea, but current sanctions largely fill a similar function in blocking or severely restricting North Korea’s external trade in a wide range of goods. And as of now, China appears to be implementing many of the trade restrictions with force—at least enough for the North Korean economy to feel it. But in the grand scheme of things, Beijing’s sanctions enforcement remains an anomaly. China usually enforces sanctions only for temporary periods of time, when global attention is focused on North Korea, and reverts to normal trade with the country when tensions have blown over. It remains China’s primary objective in this that the status-quo be preserved, and part of that is to ensure the survival of North Korea in the long run. This was true in 1991, and it remains true in 2017.

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Effectiveness of Economic Sanctions on Russia’s Economy

In early 2015, Western leaders thought they had Russia cornered.  A year earlier they imposed on Russia economic sanctions, which ranged from restrictions on access to Western capital markets to bans on the export of oil-production technology, to punish it for its role in dismembering Ukraine.  Those sanctions and the Russian boycotts that followed threw Russia’s economy into turmoil.  With some justification, President Barack Obama declared that “Russia is isolated with its economy in tatters” in January 2015.  But two years later, Russia has stabilized its economy, annexed Crimea, and kept its “little green men” in eastern Ukraine.  What went awry?

Peak Pain

In financial terms, Russia felt the most damaging impact of the West’s economic sanctions within the first year of their imposition.  Suddenly, Russian companies, holding dollar and euro-denominated debt, had to repay their loans without the ability to refinance them.  Russian banks targeted by Western sanctions saw their overseas assets frozen.  That created a cash crunch.  Many companies were forced to suspend operations and slash jobs; some even required government capital injections to survive.  But they did survive.

Commodity Price Stabilization

Unfortunately for Russia, the West’s economic sanctions coincided with a steep drop in global oil prices.  That, more than anything else, exacerbated Russia’s economic woes, since much of the country’s economy depends on the production of commodities, primarily oil.  Oil prices plummeted from over $100 per barrel to under $35 per barrel in late 2015.  But then they began to recover the following year.  So too did the prices of other major commodities that Russia produces, including iron, aluminum, and copper.  No doubt global economic growth, which boosted commodity prices, helped Russia to better ride out Western sanctions.

Floating Currency

But the stabilization of commodities prices did not save Russia’s economy.  With economic sanctions darkening the country’s outlook, the value of the Russian ruble was cut in half.  At first, Russia’s central bank tried to defend it, consuming $200 billion in foreign exchange reserves in the effort.  But ultimately, Russia’s central bank took a leaf from the International Monetary Fund’s market-based playbook and allowed the Russian ruble to float.  That freed Russia’s central bank from having to defend the ruble and prevented an even greater outflow of hard currency that would have further undermined Russia’s economy.

Moreover, since commodities are generally priced in dollars, the sharply devalued ruble meant that though Russian companies faced falling prices for their goods, the dollars they did receive could be converted into more rubles.  That softened the economic blow—enough so that Russian energy companies could continue to reinvest in their businesses.  As a result, despite the sanctions on oil-production technology, Russia is able to produce more oil today than it did before the sanctions were imposed.

Inflation Control

With shortages of imported goods and more rubles in circulation, inflation became a real threat.  Rising prices ate away at the purchasing power of ordinary Russians.  But rather than reflexively enact price controls, Russia’s central bank used another market-inspired lever.  It raised interest rates, up to 17 percent by December 2014.  Credit naturally dried up, further depressing the Russian economy.  But fortunately for Russia, inflation was quickly brought under control.  That allowed Russia’s central bank to gradually lower interest rates to 10 percent, giving Russian companies much-needed breathing room to recover.

Fiscal Discipline

In the depths of its economic recession, Moscow could have increased government spending to boost economic activity.  But with falling revenues from Russian oil production, a surge in spending would have pushed Russia’s government budget deep into the red and fueled a potential economic crisis.  Instead, Moscow exercised fiscal discipline.  It held its spending in check and ran a budget deficit of only 3 percent of Russia’s GDP last year.  When more funds were needed, Moscow raised taxes and dug into its two sovereign wealth funds, draining a third of their assets before oil prices stabilized.

Wavering Western Resolve

Meanwhile, European companies, particularly German ones, gave Moscow hope.  They were never keen on the economic sanctions against Russia.  From the start, they lobbied German Chancellor Angela Merkel to water them down.  After they were imposed in 2014, German direct investment into Russia evaporated.  But only a year later, German companies returned, investing $1.8 billion into Russia.  Last year, they invested another $2.1 billion, more than they had in the year before economic sanctions were imposed.  Such continued investments have encouraged Moscow to question the strength of Western resolve.

Conclusion

The West’s economic sanctions have bent but did not break the Russian economy, despite its structural vulnerabilities.  What steadied it was a combination of several factors, the most important of which were the stabilization of global commodity prices and the market-oriented policies implemented by Russian authorities.  They made Russia’s economy more resilient and prevented an even deeper recession.

Ultimately, economic sanctions can make countries more vulnerable to global economic forces.  But rarely do they deliver a knockout blow themselves.  Western economic sanctions against Russia have proven the rule, rather than the exception.  Ironically, the West’s success in spreading open-market ideas at Russia’s central bank may have inadvertently weakened the effectiveness of its own economic sanctions.  If so, the further spread of such ideas could make economic sanctions even less effective in the future.

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