North Korea, secondary sanctions, tertiary impacts, and the coming death spiral

As I write today, rumors are swirling through the South Korean media of defections and purges involving so many North Korean diplomats, spies, minders, workers, and other officials that I haven’t had the time to either keep up with them or sort out the conflicts in those reports. I’ll try to do that by this time next week, and identify any patterns I see in them. In the meantime, an intriguing story by the Daily NK elucidates how well-targeted sanctions can drive disloyalties and fissures within the North Korean regime, and how we can exploit those divisions.

Two weeks ago, the Treasury Department froze, and the Justice Department moved to forfeit, the assets of Chinese conglomerate Dandong Hongxiang Industrial Development and its corporate officers. DHID and its officers were also indicted for conspiracy and money laundering on behalf of Korea Kwangsong Banking Corporation, a sanctioned North Korean bank. These were the first secondary sanctions imposed on a Chinese entity since the Treasury Department sanctioned Banco Delta Asia in 2005. The indictment of DHID was a “secondary” sanction because DHID wasn’t sanctioned for directly engaging in proliferation or arms smuggling. The sole basis for the freeze, forfeiture, and indictment was that DHID helped a blocked party, KKBC, access the financial system and launder funds through the United States. The point of secondary sanctions is to completely ostracize and isolate bad actors. Anything less turns sanctions enforcement into a game of what Marcus Noland calls “whack-a-mole.”

As we saw with Banco Delta Asia in 2005 and Iran in 2013, secondary sanctions can devastate a target. Contrary to conventional wisdom, North Korea has vulnerabilities that Iran does not. One of these is North Korea’s small, dysfunctional economy, which depends on a relatively smaller number of exports, exporters, and bankers. Another vulnerability we often overlook is North Korea’s own zero-defect political system, which imposes strict quotas for its operatives to kick up to their underbosses and ultimately, to His Porcine Majesty.

Evidently, Pyongyang doesn’t accept asset freezes and indictments as excuses from trading company officials who fail to meet their quotas. The Daily NK reports that the DHID indictments also disrupted the operations of plenty of North Korean trading companies in China, and those companies’ officials are now terrified of being punished if they can’t meet their quotas.

A number of North Korean trading companies operating in China have been identified as collaborators with the Hongxiang Group of companies – which is presently under investigation for allegations of smuggling sanctioned materials to support the North’s nuclear weapons program. Daily NK’s sources have reported that these same North Korean companies are now under increasing pressure from Pyongyang to provide further supplies to the regime before the Party’s Foundation Day holiday on October 10. These goods are to be presented as gifts to elite cadres in order to shore up Kim Jong Un’s power base.

“The companies that have been suspected of colluding with Hongxiang to smuggle banned nuclear materials are facing pressure on dual fronts now. Their business activities have been almost cut in half due to the ongoing investigations by the Chinese authorities. And now they’re required to contribute goods to Pyongyang before Party Foundation Day,” a source close to North Korean affairs in China reported. [Daily NK]

Think of the death spiral this dynamic could catalyze. A North Korean trading company official doesn’t meet his quota and doesn’t dare to go home again, for fear of plunging through a trap door into a pool of piranhas, volcano lava, or sharks with laser beams attached to their heads. You can see why these people — who may already have been shaken since the purge of Jang Song-thaek — may be tempted to rethink their loyalties, and why that fear could create the makings of more intelligence windfalls, resulting in yet more asset freezes and indictments, and so on.

When asked how the trading companies are coping with the combined pressure, the source replied, “The heads of these trading companies are being investigated by the Chinese authorities on a daily basis. So these companies have resorted to hiring Chinese companies to procure gift items like alcohol, fruit, and food products for them. After the North Korean managers are released from the interviews, they load up the purchased items on trucks and send them over the border into North Korea.”

Those who are unable to keep up with the pressure face dire consequences. The Party Foundation Day holiday is understood to be a loyalty competition among the foreign currency-earning operations. All enterprises are required to provide ‘basic planning funds,’ loyalty funds, and gifts. Falling short of these obligations is dangerous because those deemed responsible are regarded as politically problematic. In North Korea, earning such a label can result in extreme punishments, including execution.   

Such conditions have only intensified during the Kim Jong Un era, where even slight infractions have led to purging and punishment. The increasingly severe consequences are well recognized by all overseas foreign currency earning operations, explaining why they prioritize the submission of loyalty funds over the safety of themselves and their employees. [Daily NK]

Lather, rinse, repeat.

Having said this, the DHID action was just an appetizer. Dandong Hongxiang claimed to control the lion’s share of trade with North Korea, but that was probably an exaggeration. Like Jende Huang, I suspect that there are still bigger fish in this pond. Now, Obama administration officials are openly threatening to sanction more Chinese entities, and Congress is pushing it hard to do what would be particularly devastating — to sanction the Chinese banks that launder North Korea’s money.

Although none of the parties to the charged transactions between DHID and KKBC were physically in the U.S. or trading goods with Americans, the North Korean and Chinese parties to the transaction had to go through banks in New Jersey indirectly to do dollar wire transactions, to buy the things His Corpulency wants. If you don’t understand why that is, read this article, or this post about how the system worked in this case, or the Justice Department’s forfeiture complaint.

Which brings me to two predictions. First, because Kim Jong-un’s advisors are probably too scared to tell him how these sanctions work, and because elections are coming in the U.S. and South Korea, a sixth nuclear test is a near certainty within the next year. If that happens, it will trigger a second near certainty, no matter who wins the presidential election in the United States — a wave of secondary sanctions against North Korea’s Chinese bankers.