image via coinshome.net

The story goes that in 1972, the North Korean state planned to cast a 65-foot tall gold statue of Kim Il Sung to celebrate his 60th birthday. When Pyongyang’s irate economic patrons in Beijing confronted the North Korean leader about this outlandish and costly display of cult of personality, Kim Il Sung changed the statue from gold to bronze – and so it stands today on Mansudae hill, one of the most iconic symbols of the North Korean state.

Upon first glance, the story of North Koreans attempting to cast a gold statue of Kim Il Sung appears to be a typical tale of unchecked megalomania. But think of it this way: what better way to prevent the export of a certain strategic asset than to hold it in the most illiquid form imaginable?

Of course, there is no evidence whatsoever to support this theory – but it makes for a convenient transition to the story that was buzzing at the end of 2013 about North Korea selling off its gold to China. Many saw this as an indicator of extreme financial hardship facing the regime as Kim Il Sung had reputedly ordered Kim Jong-il to never export the country’s gold reserves. According to the Yonhap article that broke the news, North Korea currently holds about 2,000 tons of gold reserves worth at least $8 billion, a none too shabby sum.

38 North’s Ruediger Frank noted that while the export of gold is not new, the recent report “fits alarmingly well” into the hypothetical scenario of Pyongyang’s finances running aground after a prolonged boost in unproductive state spending to increase public consumption.

Meanwhile, the Peterson Institute’s Marcus Noland was more cautious, questioning whether North Korea was exporting mined ore as usual or de-accumulating monetary gold reserves – the latter scenario would add weight to the interpretation that the state’s finances are in crisis.

At Rice and Iron, we contributed to the discussion by asking whether the increase in gold exports (if there truly was an increase) might have helped stabilize the value of the Korean People’s Won (KPW) vis-a-vis the RMB and the USD.

Alternatively, the significant fall in gold prices in 2013 (28% fall in prices was the biggest annual drop in the value of gold since 1981) may have prompted Pyongyang to increase exports to maintain its usual terms of trade.

In either case, much like how the 2008 Asian Rice Panic revealed the North Korean food market’s vulnerabilities to shocks elsewhere on the continent, the foreseeable consequence of gold price volatility on the North Korean economy serves as additional reminder of how Pyongyang’s finances are still very exposed to risks in the global market conditions.

Given the importance of the gold exports to North Korea, 2014 may prove to be another difficult year for Kim Jong-un. According to the Wall Street Journal, the steady increase in China’s gold demand which had underpinned gold prices since 2001 is predicted to slow, threatening the nascent recovery of gold prices. While turmoil in Ukraine and the U.S. Federal Reserve’s longer-term commitment to quantitative easing boosted the depressed gold prices in the first few months of this year, some expect this haven asset to fall below $1200/troy ounces in the next 6 months as Chinese consumers look to 2014 as a year of consolidation.

image via the Wall Street Journal

Looking back on 2013, it’s very likely that North Korea, facing diminishing gold prices around the world, sought to unload its ore/reserves anywhere it could to pay for the country’s trade deficits and hoist up the KPW exchange rate. One place that retained high demand for gold was China where consumers were taking advantage of the low gold prices to hoard the precious metal. The 23% increase in China’s gold demand last year was a boon for North Korea as it could access its neighbor’s market with relative ease. The resulting selloff of North Korean gold in the Chinese market probably caught some people’s attention, leading to the abovementioned story reported by Yonhap.

But what will happen when gold prices plummet this year? With demand growth in China grinding to a halt, North Korea will face difficulties converting their gold to hard currency and upholding their terms of trade with its trade partners if gold prices take another significant plunge. And as we emphasized before on this blog, the resulting fall in the KPW value could have serious ramifications for the country’s food market.

In the long-term, market analysts expect China’s demand for gold to pick back up. According to the World Gold Council, China’s gold demand is estimated to increase 19% by 2017 as the country’s fevered economic growth allows more citizens to become first-time gold buyers.

Nonetheless, there are other developments that still spell trouble for North Korea’s long-term prospects. On March 26, the World Trade Organization ruled that China’s regulations on rare earth exports were inconsistent with the organization’s rules. While Beijing is currently disputing the ruling, the WTO’s position opens the way for the release of greater supply of rare earth metals into the global market, reducing their market value. As a result, some Chinese rare earth producers are already reporting massive profit losses following the WTO decision.

This bodes badly for North Korea as increased Chinese supply of rare earth elements will diminish the demand for additional sources of production, a role North Korea was hoping to fill with its rich deposits underfoot. The diminished urgency of North Korean supply will discourage investors from bringing much-needed capital to North Korea, further slowing development and undermining Pyongyang’s ability to stay afloat.

Kim Il Sung might have been correct to believe that the world was out to get North Korea – and in such a scenario, prohibiting the export of gold might not always be a bad policy. But as Pyongyang is probably already aware, it is, under no circumstances, possible to completely secede from the world.

Perhaps at the end of the day, adventurous investors following Jim Rogers’ footsteps will still be offering good hard currency for North Korean gold, in coin form with Kim Il Sung’s face in full glory, while banking on the DPRK’s eventual demise, completing this beautiful circle of irony.