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The Defector’s Tale: Inside North Korea’s Secret Economy

F ollowing the collapse of the global socialist market in the early 1990s, an unexpected thing happened on North Korea’s road to financial oblivion: The same economy that cannot produce a usable toothbrush is now armed to the teeth with nuclear weapons. I say this as someone who knows, having been involved, however obliquely, in providing the funds that made the atom splitting possible. There is much I still don’t know about my native land, but this much is clear to me: This central riddle of North Korea—advanced technology within abysmal backwardness—is wrapped in the mystery of its economic structure, and compounded by the enigma of Kim Jong-il’s opaque motives. My own involvement in the North Korean economy leads me to believe that an economic corpse has been able to produce such nuclear achievements by creating what is essentially a secret, invisible, firewalled financial system scavenging off the West, which Kim created to compensate for the collapse of the normal or “People’s Economy” of North Korea.

To advance understanding of Pyongyang, the West will have to depend, at least for the time being, on oral histories such as my own. This hidden financial system I’m referring to has no written records; most of the documents that tell the story—receipts, bank transactions, and the rest—are destroyed annually by Kim’s direct order (less to prevent outside audit than for fear that North Korean citizens might learn what was done with all the money secretly generated while they starved). Yet this same private financial network, which belongs exclusively to Kim and the elite ruling class, produces, by my estimates, fully two hundred times the foreign cash revenue of the Cabinet-run People’s Economy. This unseen and unnamed military and industrial complex was created solely to service Kim’s interests and obsessions, including the development of nuclear weapons. I will employ the phrase “Royal Court Economy” to describe it in the pages that follow.

As a former subject of that court and one of few who can speak credibly about the inner circle of North Korea, I occupied a specific corner of the Royal Court Economy. As a “revolution fund” manager, I was hired to “catch the dollar in the air,” to raise hard cash through the international insurance system for Kim’s personal whims and his nuclear dreams. Externally I had a more bland identity—as the Singapore representative of North East Asia Bank.

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My position afforded me transcendent status and privileges by North Korean standards, and yet I found myself becoming ever more critical of the North Korean regime and ever more psychologically removed from my job and my commitment to the Kim Dynasty. Perhaps it was my exposure to the wealth of Singapore when I was stationed there. Or perhaps it was Kim Il-sung’s 1992 poem “A Song in Praise of the Bright Star,” in which he described his progeny as a new sun. Or perhaps it was Kim Jong-il’s own words: “Our people are a good people.” I understood exactly what he was saying: “You are obedient. You are passive. You are good slaves.”

I am not a hero, but I wasn’t a very good slave either. And perhaps my silent disgust was noticed; in 2003, suspicion of leaking classified information to foreigners fell on my Singapore office. I don’t know if the accusation was true, much less the content of the alleged leaks, yet when I returned to Pyongyang to give the president and vice president the usual percentage of my commissions, essentially the routine beak-wetting of criminal enterprises after a successful deal, they both unexpectedly waved away my envelopes full of cash saying, “Please give this to me at some other time.” At that moment, I recognized the risk of staying within the North Korean system was to risk “destruction for three generations,” the price exacted for disloyalty to Kim and his inner circle. My family and I defected in Singapore to the alien world of the West.



A s an outsider I see a vacuum in Western understanding of how money and resources are produced—and not produced—in North Korea. Western and South Korean analysts try to fill the gaps in their understanding of Pyongyang with a form of magical thinking in which the perception of the North Korean regime swings from being essentially permanent to a regime facing sudden collapse. As this pendulum of opinion is not really based on hard evidence, it swings freely in the commentary about North Korea in Western policy and media circles.

Advocates of the “permanent cycle” hold that the regime is more or less invulnerable to change; those who argue the “imminent cycle” believe that it is always in a slow-motion collapse. From my perspective, both interpretations create distortions, but there is a special danger in the “imminent cycle” in that it allows Western analysts to focus less on North Korean economic structure (which will presumably be washed away in short order), while indulging themselves with streamlined collapse scenarios which they use to advance the discussion of the emerging great-party calculus on the Korean peninsula. Such analysis may ultimately prove quite useful, but we should acknowledge that it also risks prematurity. I am convinced that there is no fundamental change in North Korea, not in the insurrectional mood and especially not in the nature of the regime. North Korea, true to its mutated Communist principles, has the greatest and most deeply entrenched status and income disparities of any country in the world. With no social networks, real-time mass communication, or even a true equivalent of samizdat, any collapse is most likely to take the form of a military coup, not the prole revolt often mentioned in Western analysis. Yet even then, the creation may outlive the creator because the Royal Court Economy serves as the defense establishment’s financial lifeline.

The consequence of the opposite view—seeing the regime as permanent—is that the malevolent becomes the normal state of affairs. Like a doctor becoming too involved with a psychologically disturbed and violent patient, “progress” is read into the tiniest signals. Indeed, it is always possible to see signs of “reform” given the unique North Korean method of building agencies, banks, and departments and then destroying or ignoring them altogether. In the West, the more that these false starts are read as a mirage of progress, the more therapy sessions—in this case, six-party talks—are prescribed. And similar to a doctor tinkering with medication, financial bailouts are considered not just for “human rights” reasons but because financial assistance—no matter how many times the funds have been shown to be diverted to the royal court of the Kims—is simply less controversial than the other options. Actual progress continues only in one area: the construction of a third nuclear weapons state in the Pacific Rim.



T he Royal Court Economy, which supports this development, emerged from necessity. Kim’s dilemma in the early 1990s was straightforward enough: The collapse of the North Korean economic regime was total, laid waste by his father Kim Il-sung’s decision to move to a derivative economy dozens of years earlier, exposing North Korea to the financial bust of the Soviet bloc. Fully abandoned, Kim Jong-il saw clearly that without constant injections of hard currency, the fall of the regime was certain. Yet even the dollars would not be enough: Kim’s authority, no matter how absolute or far-reaching, could not really overwhelm the poverty of the North Korean masses. Any wealth that the People’s Economy produced, any pennies that fell from the Western heavens, would mostly be absorbed without a trace, as rain is soaked up by a parched desert. Above all, the Foreign Trade Bank, charged with the sole authority for hard currency handling under the control of the Cabinet, could not be fully trusted. A radical shift in financial power toward a private, single-owned economy was necessary, yet the public rationalization for this move had to reward military loyalty and raise the general banner of a stronger North Korea.

In fact, the first stages of constructing a secret pipeline for diverting the flow of funds from the state coffers to the ruler’s free disposal began in the mobilization atmosphere of the 1970s. The ambition to reunify Korea by military force, the continuing stand-off with the United States marked by the USS Pueblo incident and the shooting down of a US Navy reconnaissance flight, combined with economic outperformance of South Korea, had generated the pretext to merge industry and military into a single separate unit. Specifically, Kim Il-sung excised the munitions industry from the Cabinet in the early 1970s while establishing “The Committee for Economy 2” in 1972 to run the munitions-industrial sector. At the same time, his heir Kim Jong-il created a new central party department called “Office No. 39”—named after the arbitrary office number where it began operations. Under 39’s umbrella, “Daesong General Bureau” (a massive manufacturing and trading conglomerate) emerged, thus forming a new economic sector completely independent from the central planning and Cabinet control. The ensuing advent of new foreign exchange banks would also contribute to the process of destabilizing the existing economic system and the state’s unilateral control of the foreign currency. From this new, independent sector run by the Central Committee of the Korean Workers’ Party (KWP)—and ultimately controlled exclusively by Kim Jong-il—the Royal Court Economy would attain its current status (represented in the chart in Figure 1 below; click here for a larger version).

At first glance, the chart appears to depict nothing more than a collection of obscure entities from a totalitarian template, yet it actually represents a hybrid system quite unlike anything the socialist world has ever produced. Only on the left side does the chart represent the standard mono-bank Communist system that the West is familiar with. Controlled by the “Prime Minister and the Cabinet,” this People’s Economy contains the vast majority of the North Korean people and literally all of its resources. With the “Korean Workers’ Party Planning and Finance Department”—Kim Jong-il’s direct creation—as a policing element, the “National Planning Commission,” staffed by approximately one thousand people, sets and enforces the public five-year plans. The “Korean Foreign Trade Bank” (FTB), the only bank in North Korea that is ostensibly authorized to manage the foreign currency transactions of the people’s economy, doubles as the bank for the Cabinet ministries and the Foreign Ministry itself. Yet in truth the bank is a faded paper tiger, a third-level exchange bank with total receipts amounting to approximately $7 million a year.

Below the FTB, and staffed by approximately two hundred thousand people, are the “Committees, Ministries, and Guidance Bureaus,” which, in theory, administer and keep track of every North Korean resource down to the level of chickens in individual plots under the rubric “Factories, Enterprises, and Farms.” These assets constitute ninety percent of the economy, yet following the collapse they are currently producing at twenty to thirty percent of capacity.

From the perspective of the entities that make up the right side of the chart, the People’s Economy is little more than a collection of resources, a strip mine to be exploited for foreign cash. The Royal Court Economy is directly controlled by Kim Jong-il, designed to focus on foreign trade and the generation of hard currency revenue and to directly funnel it back to him. Yet the mission is purposely made obscure; each group is created as a conglomerate, including operational planning, production elements, a trading division, ship management, and investment capabilities. Most critically, the majority of the organizations enjoy independent hard currency management and their own dedicated exchange banks. The proliferation of banks form an ersatz marketplace, creating a bait for foreigners and allowing for quick dissolution under Western legal scrutiny. The banks internally secure all information regarding the clandestine nature of the operations. Even high-level bank personnel are given only limited knowledge of the entire system, creating an information firewall, and thus allowing Kim Jong-il to withhold the full extent of the Royal Court Economy’s operations and his personal spending from the North Korean masses.

On the right side of the chart, “KWP Office No. 39” and “Daesong Bank” have continued to handle manufacturing and trade since first being established in the 1970s, while “KWP Office No. 38” and “Koryo Bank” handle the service industry, hotels and department stores that cater to foreigners. These are often legitimate enterprises, yet the revenue they raised was often negligible compared with the line of command that begins with the “Korean Workers’ Party Organization Guidance Department” (KPW OGD)—responsible not only for overall organization, but party life guidance and determining the political fate of party officials and institutions through internal inspection, punishment, and purges. KPG OGD was also granted control of one of the most lucrative areas in North Korea’s international operations: insurance. Although there are other forms of illicit activities, such as counterfeiting, product piracy, and drug trafficking, with the exception of the munitions industry, the largest generation of foreign currency for Kim Jong-il comes from claims filed through international insurance operations and insurance fraud. This was the part of the Royal Economy in which I worked.



T here are two main organizations under KPW OGD that produced profitable insurance returns while maintaining a legitimate image: “North East Asia Bank” (NEAB) and the “Korean National Insurance Corporation” (KNIC). Neither of these entities are concerned with losses or the results of internal North Korean insurance operations. In fact, the common understanding in the industry is that the more accidents and misery there are in the nation, the more hard cash goes to Kim Jong-il and his family. (Every year, as a birthday celebration, $20 million—produced as a direct result of suffering by the North Korean people—is gifted to Kim; in this manner, the KNIC maintains its exclusive privilege and access.) Specifically, domestic insurance operations of the KNIC, based on the North Korean currency, the won, are little more than an automated paper trail in which operations are planned by the state, claims are filed by the state organizations, and payments are made to those same state organizations.

Let me explain how this works in practice. As a “revolution fund” manager at North East Asia Bank, I had the responsibility for transferring the North Korean won credit balance of KNIC to the Central Bank’s account several days before the fiscal year closing. Yet given that our only real task was to inflate the foreign cash bag as much as possible, nobody at KNIC actually cared how much won we had made or how much was transferred. I realize this sounds absurd, particularly because the level of insurance participation in North Korea—again, on paper—is quite high. In fact, life insurance is run through an automated, compulsory check-off system from salaries, and when an individual suffers a problem—or a death in the family—the paperwork will usually be completed to the point where it could satisfy a Western audit. It is a little like union check-off dues in the US; the amount is deducted and no one knows what happens to the money afterward. In the Royal Economy scheme, people die and their heirs never see any settlement. In most cases, no one actually gets paid. This pattern is replicated for businesses, farms, and enterprises throughout the economy where the internal insurance operation has become increasingly meaningless over time. Following the collapse of the People’s Economy, any payment for insurance claims made in North Korean won never sufficiently compensates or replaces any loss or damage because of the severe currency devaluation. This missing piece in Western understanding—the lack of actual payment—is the black hole in the center of the system that freed us to exploit Western reinsurance for pure profit.

With no concern for providing coverage for risk but solely for generating hard currency by KNIC, we could shift and distribute the largely mythical internal “costs” to international reinsurers (mainly via the brokers). Thus the normal system of distributing insurance risk freely between Western companies becomes completely unglued in the North Korean case for two reasons. First, because there will be few or no prosecutions for fraud; if there are questions, it will usually end up in the North Korean court system, where the result is pre-ordained. Second, because KNIC was able to maintain reinsurance policies by making it appear as if the Western exposure was essentially rational. KNIC did this by paying higher premiums on policies that are—again, quite rationally—considered higher risks. Yet KNIC accepted these high prices because no matter what actually happens in the physical world, they will inevitably make claims for reimbursement. Every year, a claim is carefully planned and targeted. One year it may be a fire; the next year, a flood; after that, machinery failure, sunken ships, or dead livestock.

In 2005, it was the North Korean airline, Air Koryo. When I met with an attorney working for a London-based reinsurer, I was told of an accident in North Korea in which a pregnant woman carrying triplets was riding in a helicopter that crashed into a warehouse. The amount claimed was preposterously high, but beyond that it was obvious to anyone with even a passing familiarity with North Korea that the story itself was forged.

In North Korea, the birth of triplets—read as a portent of national prosperity—is treated as extremely special, especially by Kim Jong-il. Families of such babies are given new homes with specially assigned nurses. Kim sends an ornamental “silver knife” to each of the triplets and assigns a helicopter to bring the pregnant woman to give birth in Pyongyang, where he hosts a birthday party and leaves detailed instructions for their future. In some cases, the triplets provide life-long propaganda for the state media, which covers their upbringing, education, military service, and loyalty to Kim, creating a sentimental attachment in the North Korean heart. At the same time, flying in a helicopter in North Korea is extremely unusual. Helicopters are used for the military, or to carry high-ranking foreigners (if permission is granted by Kim). A handful of North Korean high-ranking officials are also given this privilege. So the chance of a helicopter accident is slim, and the forging of an accident involving or “killing” any prominent visitor or high-ranking North Korean official would be very difficult to pull off. A pregnant woman best suits the story, as conveying them to a hospital is an already known practice (at least to North Koreans) and “life casualties” can add significantly to KNIC’s claim. Perhaps my colleagues at KNIC invented the story with the hope that, given what they assumed was a universal human veneration of women pregnant with triplets, it would stir a wave of sympathy among the reinsurers at the same time that it raised money.

The risible triplet story might sound like a bit of an outlier, and it is true that most of the claims are based on careful calculation, lest reinsurers suffer too much loss at any one time or become suspicious. For example, when the Daedonggang Hotel in Pyongyang really and truly turned into ash following a fire, KNIC considered it a windfall and filed a very detailed claim amounting to $2 million. But this was nothing compared to the yield of the triplet story. Far-fetched as it may seem, by 2009, in a London-based insurance claim involving several international reinsurers, North Korea was awarded $58 million.



B y employing KNIC’s overseas operations to make a “free grab” with various reinsurance companies, North Korea has been able to produce prodigious sums of hard currency while simultaneously reinvesting, expanding the network of KNIC insurance operations around the world’s major operational regions, always shifting from table to table, always operating with a fresh deck, from London to Paris, Germany to Pakistan, and Switzerland to Singapore. The danger to the West goes far beyond fraudulent claims—indeed, that is a common hazard of doing business with the developing world—or even the suffering of the North Korean people. The danger lies in the transfer of Kim’s dollars from the Royal Economy into development of North Korea’s nuclear arsenal and WMD, and the proliferation of those assets around the world.

After the failed nuclear test of 2006, North Korea’s second test in May 2009 was followed by an unexpected series of missile displays, including an alleged satellite launch in the first half of this year—the costs cumulatively amounting to perhaps $700 million, or two million tons of corn, enough to cover the shortage for two years (if other military expenditures were added to this, the cost would easily exceed one year of food consumption). With arms production comprising approximately seventy percent of North Korea’s factories, the West has seen glimpses of North Korea’s WMD sales in direct defiance of international law and regulations. Notably, there was the interception of the North Korean cargo ship Sosan, in 2003, on its way to deliver missiles and warheads to Yemen. Recently, Myanmar has become a focal point of the international community and media because of its reported nuclear ties to North Korea and the allegations that North Korea’s military might be involved in clandestine military construction.

The head of the arms-sale structure, sometimes called the “second economy,” is the “KWP Munitions Industry Department.” To explain what this agency actually does and to estimate the size and scale of revenue produced by Kim Jong-il through arms sales, we can check the total assets of munitions-related banks. The most prominent is “Danchon Bank,” (widely known as Changkwang Credit Bank; the name was changed to avoid sanctions). While Danchon is only staffed by about thirty employees, the bank runs regional offices specializing in the arms and terror trade in the Middle East, Myanmar, and Africa. In one case during the 1990s, Danchon (again, operating as Changkwang Credit Bank) advertised that it was handling $6 billion in assets. Although North Koreans like exaggerating such figures, this does not diminish the fact that Danchon remains the largest bank in North Korea in terms of assets and operation volume. I estimate that the Danchon Bank may have handled several hundreds of millions of dollars every year, most of which are generated from sales and proliferation of WMDs. (Recall that the Foreign Trade Bank, which manages the whole “official” foreign currency transactions of the People’s Economy, only amounts to $7 million.)

The Royal Court Economy may have been expanded under duress as a short-term answer to the Soviet bloc’s collapse, but it has since become a ruthlessly successful adaptation for Kim Jong-il’s purposes. Yet if a system resembling a grave-robber picking at a corpse is preferred over a real, albeit struggling, economy, how can we expect the North Korean leadership to respond to six-party talks? China is still the provider of last resort to the North Korean regime, and Western carrots of financial assistance tied to demands for positive economic reform do not speak to Kim Jong-il’s perception of destiny, particularly as the divergence of US and Chinese strategic interests, laid bare in their respective reactions to North Korea’s recent sinking of a South Korean ship and shelling of an island, demonstrates that they cannot muster even the smallest of collective sticks. And indeed, when an economy becomes this dysfunctional—controlled by a single man, possessing so many negative incentives, contaminated by personal interests—it cannot be fixed, and it cannot reform. Even if a negotiation strategy with North Korea is doomed, however, is the West blind to the significant capitalist leverage it still retains? It may require an unfamiliar level of resolve and intrusion into international commerce, but the only remaining option for the West is to avoid negotiation and to expose, boycott, and bring down the Royal Court Economy.

 

Kim Kwang Jin, a non-resident fellow of the Committee for Human Rights in North Korea (HRNK) and a senior fellow at the Institute for National Security Strategy in Seoul, South Korea, wishes to thank Ethan Gutmann at the Foundation for Defense of Democracies for his contributions to this article and HRNK for research support.

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