North Korea’s introduction of US dollar bonds signals a foreign currency shortage rather than a step towards engagement with the global capital markets, according to experts.
News sources and analysts said that the North Korea regime appeared to sell government bonds onshore last month after sanctions and the global coronavirus pandemic caused its foreign reserves to dwindle.
Details of the issue are not known, but Daily NK, a news service focused on North Korea and considered credible by experts, reported that 60% of the bonds were allocated to state-owned enterprises and 40% to individuals including donju, or entrepreneurs.
This is not the first time that the Democratic People's Republic of Korea, as it is officially known, has embarked on a so-called "bond-buying" programme. In 2003, it sold "People's Life Bonds" denominated in North Korean won and targeted at resident individuals. The bonds had a 10-year tenor and did not pay coupons, but bondholders selected by a lottery were due to be repaid more than the principal.
"The last time the government issued bonds, it was alleged that they essentially coerced individuals and businesses to purchase these and they eventually became a vehicle for transaction," wrote Fitch Solutions, the credit and country research unit of Fitch Group, in a report on May 22.
It is not known whether that is the case this time, although some Western commentators have pointed to the likelihood that it is. In any case, investing in North Korea's debt is not for the fainthearted, since it has never repaid any of its offshore borrowings. Pyongyang’s loans from Western governments were repackaged into zero-coupon bonds after it stopped servicing the debt in the 1980s, and turned into a €163m (US$183m) piece denominated in Deutschemarks and a SFr240m (US$250m) tranche, both of which were supposed to mature in March this year but are believed to be outstanding.
ECONOMIC CRISIS
Fitch Solutions, which is independent of Fitch's credit rating division, expects the North Korean economy to shrink by 6% this year.
Exports to China dropped to US$50m last year from US$350m in 2016, according to North Korea watchers, and are expected to be even lower this year. That could make it hard to fund new projects.
Rodong Sinmun, the official newspaper of North Korea's Workers' Party, wrote in April that major projects due to be completed this year include the construction of Pyongyang General Hospital and the upgrade of an iron and steel factory.
Fitch Solutions wrote that state-owned enterprises like Construction Bureau 8, which is building the hospital, would use the bond proceeds to procure raw materials from local companies.
"After the ["bond buying"] programme was announced, the black market value of the North Korean won went down, which supports the possibility that foreign currency savings were involved," said Florian Schmidt, CEO of Frontier Strategies, a capital markets consultancy firm for Asian frontier markets. "There seems to be a shortage of euros and dollars in the system right now, whereas in the past the access to foreign currency has always been relatively easy and was tacitly accepted by the government."
A researcher from a South Korean government-linked institution said that the last time North Korea sold bonds, it was to tackle inflation. He did not wish to be named because his institution had not been able to confirm the new bond issue.
Another Seoul-based researcher estimated that North Korea's commodity trade deficit was US$2.3bn last year and would have worsened this year. He believes that North Korea is currently suffering from deflation, because both supply and demand are down after it closed its border with China in January to limit the spread of coronavirus.
Experts on the North Korean economy estimated in early 2018 that it would face foreign currency shortages as sanctions began to bite, yet imports of non-sanctioned products increased in 2018-19 as purchasing power in the private sector increased.
"Chairman Kim Jong Un has promoted the idea of a prosperous economy with people saving and accumulating wealth," said Schmidt. "As a result a fairly wealthy middle class has emerged in Pyongyang. Now might be payback time."
Schmidt said that the "bond buying" programme, if successful, could fund more than half of this year’s budget.
Rodong Sinmun reported that state budgetary revenue was expected to grow 4.2% from the previous year, while expenditure would increase by 6%. It did not give any monetary values.