North Korea puts Asian markets on edge

Investors are hoping for a smooth transition of power for Kim Jong Un, but questions abound.

By Jim J. Jubak Dec 19, 2011 5:16PM
I don’t remember asking for this in my Christmas stocking: More uncertainty -- this time from North Korea.

The death of North Korea’s Kim Jong Il Saturday has thrown Asian markets into a tizzy. That’s what happens when a totally opaque country with a collapsing economy just happens to own nuclear weapons. The fear is that Kim Jong Un, the designated successor to the "Dear Leader," doesn’t have a very secure grip on power and will feel compelled to solidify his control with a bit of military adventurism such as a new nuclear test or a new shelling attack on South Korean territory. 

Kim Jong Un is Kim Jong Il’s third and youngest son and was only tagged as Kim Jong Il’s successor in 2009. Until 2001, his eldest half-brother Kim Jong Nam was the favorite to succeed to the top of the North Korean state but, reportedly, he fell from favor after he was caught trying to sneak into Japan on a fake passport to visit Tokyo Disneyland. (You can see why the markets might doubt the rationality of North Korean politics, right?)

There is some speculation that while Kim Jong Un has been designated as successor, he won’t have all the power wielded by Kim Jong Il. Kim Jong Un is just 27 or 28 (the records are contradictory) and his promotion into the top ranks of North Korea’s Communist Party really dates only from 2009. There’s a good chance that Kim Jong Un’s uncle, Chang Sung Taek, will act as a de facto regent.

The uncertainty of Kim Jong Un’s grasp on power isn’t the only reason to fear some act of military bravado from North Korea. The country’s economy is near -- or even deeply into -- collapse. From 1995-1997, a famine in North Korea resulted in 2 million deaths. It looks like North Korea could experience a famine again this winter and the country seems to be starting from an even more precarious position than in 1995. 

There are fragmentary reports that soldiers are going hungry this year -- not exactly the scenario that makes for a smooth transition. The military holds the real power in North Korea; when Kim Jong Il took power in 1994 after the death of his father, he took years to carefully build his power base with the military through prestige construction projects like the country’s nuclear weapons program and by allocating a huge share of the revenue from the country’s arms exports to the comfort of military leaders.

The death of Kim Jong Il comes at a very sensitive time in North Korean-U.S. relations. The Obama administration was in the process of negotiating an agreement to provide food aid to North Korea to head off the worst of the threatened famine in exchange for an understanding that North Korea would suspend its production of enriched uranium. That was always going to be tricky to complete since any sign that North Korea was backing down in the face of U.S. demands would have infuriated the hard-line faction of the military. It’s unlikely that Kim Jong Un will agree to anything that weakens his position with the military.

Adding to the worry that North Korea could do “something” is the upcoming 100th anniversary (in April) of the birth of Kim Il Sung, the founder of North Korea and its current ruling dynasty.

What kind of celebration will North Korea stage? A new nuclear test? A purge of high-ranking officials and officers? A coup to take over from Kim Jong Un?

I think, unfortunately, that all of those alternatives are on the table. And that will keep financial markets in Tokyo, Hong Kong, Seoul, and Shanghai on edge.

At the time of this writing, Jim Jubak didn't own shares of any companies mentioned in this post in personal portfolios. The mutual fund he manages, Jubak Global Equity Fund (JUBAX), may or may not own positions in any stock mentioned. For a full list of the stocks in the fund as of the end of the most recent quarter, see the fund's portfolio here. 



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