Why the markets ignore North Korea

korean military parade

Kim Jong Un, the North Korea leader, has consistently provoked the US and South Korea. A series of ballistic missile tests, nuclear weapons development, a substantial conventional weapons arsenal, chemical stockpiles and aggressive statements are a reminder that this authoritarian thug regime wishes to be noticed and is working to achieve greater military power. Meanwhile markets assume there will be no hostilities which would lead to loss of life and major disruption to regional output and trade.

The long term background stretches back to the Korean war which ended with a truce in 1953. There was a de facto agreement but no peace treaty that Korea should remain divided between the south, an ally of the US, and the North, an ally of China. The North Korean leadership may still dream of one day launching a new phase of the war to unite the peninsula under Northern leadership, but even this current government seems to understand that is a war North Korea would have no chance of winning. The two main powers involved can live with the status quo. It suits China to have a buffer state between the American defence forces in South Korea and her own border with Korea. The US has no territorial ambition to reunite the two Koreas under Southern leadership by using force of arms.

This does not mean China and the US are at one on all the questions at stake. China is concerned that the US is seeking to place THAAD anti-missile systems into South Korea. These missile systems have powerful radars that can look well beyond the peninsula. China does not wish to see a large US military or even surveillance build up on its doorstep. The US expects China to discipline its client state in North Korea more than it has managed to do, maybe exaggerating just how much influence even China has over this rogue leader. China may fear that one day the excesses of the North Korean regime lead to its own internal overthrow by people who might want the lifestyle and approach of the south instead.

Last week saw an important milestone with the unanimous passing of United Nations Resolution 2371. President Trump was engaged and supportive, despite his general reservations about the UN. China and Russia were persuaded to condemn North Korea’s actions in stronger language than usual, and to agree a wide range of new sanctions designed to hit North Korea’s exports and earnings of foreign currency. The UN resolved to ban North Korea sales of coal, iron, iron ore, seafood, lead, and lead ore. It placed travel bans and asset freezes on nine senior North Korean officials, and blocks on four important enterprises. North Korea has to rule out any further “launches that use ballistic missile technology, nuclear tests or any other provocations”. This seeks to cut North Korea’s hard currency earnings from exports by around one third, with a view to curbing their financial ability to continue weapons development. China and Russia do not like the idea of a heavily armed North Korea with nuclear and chemical weapons, as they do not control the country sufficiently. They also understand that the more North Korea arms, the more the US is minded to arm the South against it.

In return for this tough action by China and Russia, the US signed up to “a peaceful, diplomatic and political solution to the problem”. Mr Trump may well have called for military options, and may well have talked to his South Korean ally about them. The new South Korean leadership is keen not to provoke North Korea any more, and has put a stop to the rapid introduction of the THAAD system of anti-missile protection, citing the need for an environmental study before further batteries are deployed. Many worry that Seoul would be vulnerable to a strong attack from North Korean artillery near the border, and from its arsenal of rocket launchers now well dug in. Whilst others claim that range and reliability issues with Korean weaponry would limit the damage, that is not a theory the government of South Korea wishes to put to the test. The first two THAAD batteries installed are well to the south of the capital designed to protect the south of the country.

The imposition of new tough sanctions on North Korea allows President Trump to claim he is doing something, whilst buying time for China to show she is seeking to assist. If North Korea ignores it and carries on with more public tests and development news there will doubtless be a further review of UN policy. It is difficult to see if that happens that the facts will have changed sufficiently for Mr Trump to go for a more dangerous military option, especially given the understandable reluctance of South Korea to let the US arm them sufficiently to give them more protection. President Trump in the past has raised the issue of who pays for South Korea’s defence which also complicated the position. It looks as if he will continue to accept diplomacy is the only way to proceed, even though North Korea are busy rejecting the idea of talks or any agreement.

Markets breathed a sigh of relief because the big six in this conflict, the two Koreas, Japan, Russia, China and the US, have found a compromise that suits all but North Korea which entails sanctions and the hope of talks. Markets can live with that even if for the time being there are no talks.

The above article  was first published by Charles Stanley on 8th August 2017