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North Korea: Witness to Transformation

Chinese Investment in the DPRK: Shanghaied!

by | August 16th, 2012 | 07:00 am
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We have received some communication on our recent story on the closing of the Taepung Group and the larger question of whether investment reform is coming. But one response was such a juicy must-read that it is deserving of a post on its own: David Stinson’s translation of a tell-all blog post from a Chinese company about its failed investment in North Korea.

Stinson first stumbled on the story in Dong-a Ilbo.  Xiyang Group, based in Liaoning and an apparent private Chinese corporate success story, set up a joint mining venture with North Korea in 2007. As is often the case in such investments, the Chinese company put up cash while the North Korean contribution to the joint venture was the land and rights, which were supposedly guaranteed for 30 years.

No sooner had Xiyang gotten the facility up and running—with substantial investment in technology and training, with over 100 Chinese workers on site—than the North Koreans tore up the contract with a new set of demands. Those of you who know the late Ray Vernon’s work on FDI, this is a classic case of the obsolescing bargain: once fixed investment in natural resource investment takes place, power shifts to the host. The new demands included a whole host of charges that were not in the contract (land use fees, water fees, natural resource fees, wage parity between Chinese and North Korean workers, and so on).

But what is of particular interest to our arguments about Taepung is the puzzle of who “the North Koreans” actually were: not knowing who they were actually dealing with appears to have been Xiyang’s downfall. The original agreement was reached between Xiyang and the Ling Feng Cooperative Group. But even Xiyang’s retrospective does not clarify who Ling Feng actually was or whether it had the authority to sign a contract with respect to the Wengjin iron mine.

Despite signs that such an investment was problematic, Xiyang was apparently lured in not only by attractive terms but by a piece of paper—“Document 53”–from none other than the Standing Committee of the Supreme People’s Assembly. This document purported to guarantee the terms reached with Ling Feng.  But in a textbook example of an environment without clear property rights, the company later found out that the core documents signed with their counterpart had been tampered with:

“In the North Korean government approval number 96-108 (February 14, 2007), the shares were Korea 25%, China 75%.  The document issuing authority is the Korean Economic Coordination and Guidance Bureau. In the North Korean government approval number 96-015 (November 27, 2007), the shares were Korea 30%, China 70%. The document issuing authority is the Korean Foreign Affairs Ministry…”

The crook who signed the deal had managed to insert himself for 5% of the action. But Document 53 didn’t prove of much use because it was followed by Document 58 from the Korea Investment Committee (in Stinson’s translation; probably the Joint Venture and Investment Commission). This new document canceled the Xifeng Joint Venture Social Enterprise’s founding certificate after North Korea decided to change policy on natural resource investments in 2008.

Note all the players involved in this scam: the cooperative, the SPA, the investment commission, even the hapless Ministry of Foreign Affairs. It is exactly this kind of institutional landscape that makes it impossible to invest. This in addition to the lack of infrastructure—which we document in our survey work—and even difficulty getting access to food for Chinese workers.

Underneath this all, though, is a simple story of naked corruption and the costs of doing business with sharks. To its credit, Xiyang is colorfully open about what happened:

“The work unit on the North Korean side cooperating with China was Ling Feng Cooperative, with Li [Chengkui] as its representative. He has a fat head, big ears, and a nice potbelly, weighing 108 kg – the fattest person in North Korea! Everybody knows that North Korea is having problems with food. Normal people can’t fill their stomachs, so the North Korean figure is quite lean. The only way to have a fat head and big ears like that is to have a very luxurious lifestyle. He asks China for everything: money, things, food, drink, women. After he returns home money isn’t enough; after going to China once they want the lifestyle. Xiyang records show that besides spending 30 million euros in North Korea over four years, costs for corrupt officials reached 800,000 USD.”

The Xiyang blog goes on to detail the corruption expenses, which are even more colorful. Our favorite: the North Koreans not only charged all of their expenses to the Chinese, but also wanted receipts so they could expense them back home. As Stinson concludes, it is hard to have much sympathy with Xiyang. But at least they fess up; according to Stinson, the post has gone viral in the Chinese blogosphere.