North Korea

From The Economist
Coping with North Korea
Korean roulette

Kim Jong Un has raised the stakes; it is time to get tougher with the nastiest regime on the planet

Apr 6th 2013 |From the print edition

EVEN by its own aggressive standards, North Korea’s actions over the past couple of weeks have been extraordinary. Kim Jong Un, the country’s young dictator, has threatened the United States with nuclear Armageddon, promising to rain missiles on mainland America and military bases in Hawaii and Guam; declared a “state of war” with South Korea; announced that he would restart a plutonium-producing reactor at its Yongbyon nuclear site, while enriching uranium to build more nuclear weapons; and barred South Korean managers from entering the Kaesong industrial complex, almost the only instance of North-South co-operation. All this comes after the regime set off a nuclear test, its third, in February. Tensions are the worst on the peninsula since 1994, when North Korea and America were a hair’s breadth from war.

The questions are what to make of all this, and how to respond. Neither is easy. The White House has tried to play down the aggression, talking of a “disconnect between rhetoric and action”, and some parts are pure bluster. The nuclear threat against mainland America is patently hollow: it will be years before the North has the technology to dispatch nuclear-tipped missiles. North Korea has yet to order a large-scale mobilisation of its 1.1m-strong army. Pyongyang, the capital, does not seem like a city that is about to go to war.

But there are also depressing reasons to take Mr Kim all too seriously. It does not take much to imagine the cycle of provocation and deterrence getting out of hand, especially if South Korea and the United States misjudge North Korea’s actions—or vice versa. And even without nuclear missiles, conflict on the crowded Korean peninsula would be savage. Decrepit North Korea would certainly be outgunned by South Korea and America. But nobody should doubt the cult-like commitment of the North’s armed forces. The human cost of war would be huge: 1.7m men serve in uniform on the peninsula, and North Korean artillery batteries are trained on the megalopolis of Seoul. American generals guess that a conflict could kill at least 1m, including thousands of Americans. Oh, and it would also be curtains for Asia’s thriving economy.

Moreover, Mr Kim heads a regime that cares nothing for its own brutalised people. Some 150,000-200,000 North Koreans—individuals and often whole families—rot as political prisoners in a vast gulag. Farmers are herded into collectives and forced into gruelling manual labour. Women trying to make a living by smuggling refugees across the border with China are shot if they do not know the right people to bribe.

In some ways the North is even scarier under its new ruler than it was under his father, who died in 2011. Early hopes that Mr Kim might prove a youthful agent of change seem entirely dashed by his nuclear explosion and boundless bombast. He is thought to have ordered the sinking of a South Korean naval corvette in 2010, with the deaths of 46 crewmen, and the shelling of a South Korean island later that year. Whereas Kim Jong Il was practised in the calibrated calculation of shaking down the outside world, his callow son has escalated tensions wildly. Nobody knows how to walk him back from the brink.

Doing so depends partly on Mr Kim’s motives. Perhaps aggression is a rite of passage to prove his leadership credentials to the country’s ancient generals. Perhaps he will shrewdly claim he has seen off the imperialist threat and back down. Perhaps he gets a thrill from orchestrating the chaos—as if he were playing a video game. Or, most worrying, perhaps he is out of his depth and therefore more prone to miscalculation.

Whenever Mr Kim’s father ratcheted up tensions, at least the pretence held that a bargain was to be had. In return for aid, oil or respect, North Korea would agree to discussions over dismantling its nuclear-weapons programme. The process was often a charade, but it kept the North engaged and it probably helped slow the development of nuclear weapons, as with the agreement to mothball the Yongbyon reactor in 2007. Now Mr Kim has declared that his nuclear capability is non-negotiable.

No prizes for backing off

What should the West do? In the long term, the best way to destabilise Mr Kim is from within. A new merchant class is emerging—the only prospering bit of the economy. The world must redouble its efforts to engage with these and other possible agents of change. This includes teaching more mid-ranking officials how societies work when they are organised around market economies and underpinned by laws; and funding defector radio stations beaming news back into the North.

That, though, is for the long term. The imperative now is to face down Mr Kim. After all, he has ruled out the only promise worth having (suspending his nuclear programme again). North Korea—and other rogue regimes and would-be nuclear proliferators, such as Iran—need to know that actions have consequences. That is why President Park Geun-hye of South Korea, in turn, was right to make it clear that sneak attacks will be met with a much firmer response than in 2010. America is right to move missile defences to Guam. When it sent two nuclear-capable B-2 bombers to fly over the peninsula it was a warning not only to North Korea, but also a gesture of support to the South. If Ms Park doubts American backing, she will be tempted to seek nuclear weapons herself.

Now more than ever, America needs to cajole China to press for change in its satellite. Apart from humanitarian aid to the North’s stunted people, all other commercial favours towards the regime should be stopped. Sick of Mr Kim and his family racket, China signed up to fresh UN financial sanctions against North Korea after the latest nuclear test. China has the capacity to choke the most iniquitous sources of the criminal regime’s cash. Yet its commitment to enforcing the sanctions seems half-hearted and it appears to have insisted that Shanghai accounts in two of its biggest banks, holding hundreds of millions of dollars on behalf of Mr Kim and his cronies, be excluded from the sanctions. Attempts at changing North Korean behaviour have so far patently failed. But then, as China shows, not everything has yet been tried.

Morning Report – Return of the Yen Carry Trade 04/04/13

Vital Statistics:

 

Last

Change

Percent

S&P Futures 

1550.7

2.2

0.14%

Eurostoxx Index

2661.8

22.8

0.86%

Oil (WTI)

93.96

-0.5

-0.52%

LIBOR

0.28

-0.001

-0.25%

US Dollar Index (DXY)

83.19

0.469

0.57%

10 Year Govt Bond Yield

1.77%

-0.04%

 

Current Coupon Ginnie Mae TBA

104.9

0.1

 

Current Coupon Fannie Mae TBA

103.7

0.2

 

RPX Composite Real Estate Index

189.4

0.1

 

BankRate 30 Year Fixed Rate Mortgage

3.68

   

 

Markets are giving back some Japan-led gains after Initial Jobless Claims spiked to 385k from 357k. This was the holiday-shortened Easter week, so there is a seasonality adjustment there.  On a non-seasonally adjusted basis, they fell. Bonds and MBS are rallying, with the 10 year yield down to 1.77%.

The Bank of Japan outlined more aggressive monetary actions last night with their own version of quantitative easing. This pushed the Nikkei 225 stock market index up 2%, and caused a sizeable drop in the yen.  This explains the rally in US bonds as Japanese investors flee for the “high yielding” US treasury market.  Don’t laugh – the Japanese 40 year bond (the 2’s of 52) yields 1.34%.  The US 10-year at 1.77%, in the context of a depreciating yen, is reviving the yen carry trade. The Yen Carry Trade is when Japanese investors borrow funds at yen rates and invest in high-yielding sovereign debt. They benefit from the pickup in yield and any favorable currency movements. With the high quality Euro sovereigns yielding even lower than the US, we are the only game in town. Punch line – this will put downward pressure on mortgage rates in the US, at least at the margin.

The CoreLogic Home Price Index increased 10.2% on a year-over-year basis in February, the highest increase since March of 2006.  It is the 12th consecutive monthly increase.  The gains were broad based, with 96% of their MSAs reporting gains.  California, Arizona, and Nevada all showed gains in the high teens.   They are forecasting a 2% month over month increase in March, or 12% year over year.

Chart:  CoreLogic Home Price Index 

Image

Hank Paulson, George Bush’s Secretary of Treasury, says that Fannie Mae’s new profitability shouldn’t deter the government from establishing a new platform for mortgage finance. He mentioned the Washington Post article that says the Administration is pushing banks to make home loans to people with weaker credit. Nominated to take over as Treasury Secretary just as the housing bubble was peaking, he can be forgiven for being a little gun-shy on re-inflating the bubble.

San Francisco Fed President John Williams said he is hopeful that “the economy has shifted into high gear” and that the Fed could begin slowing the purchases of Treasuries and MBS this summer, with a full exit by the end of the year.

Finally, you can hear my latest interview on Capital Markets Today, where I discuss real estate pricing, politics, and the economy.