Over the past two months, Pyongyang has stepped up threats, again bringing the Korean peninsula on high alert. After a nuclear test in February followed by a launch of a long-range missile that led to UN sanctions, the Stalinist regime decided to restart the disabled nuclear reactor in Yongbyon, to suspend operations at Kaesong's industrial complex, and it has declared the 1953 armistice invalid and threatened to attack US bases (i.e. Guam, Okinawa, Hawaii).

Impact on country risk

North Korea is virtually in a state of war with Seoul, which this time, with a new President, claims it will retaliate in case of any new attack from the North (contrary to what happened in 2010, when a South Korean vessel was torpedoed). However, the question is once again whether the North Korean leader will cross the red line or back off for compensations (e.g. financial aid, food, fuel, etc.). Concessions, though essential for Pyongyang to save face, seem very difficult to imagine and justify at the moment. The withdrawal of South Korean workers from the Kaesong industrial complex illustrates the deterioration of ties between both Koreas as it has been a symbol of Korean collaboration since 2004 with the ultimate hope of reunification. But this will deprive North Korea from important foreign exchange reserves as well. Therefore, it further supports the main forecast of a low risk of large military conflict as it is in nobody’s interests. In order to defuse tensions, the US and South Korea have said to be open to dialogue but Pyongyang has rejected so far. New and young leader Kim Jong-un keeps positioning himself as the strong man of the country and worthy heir of his late father, which probably explains his currently particularly bellicose stance. In the short term, there are three options: either a new missile launch, nuclear test, or worse, a miscalculated attack leading to a domino effect and instability in the region, either an easing of tensions as joint US-South Korean military exercises – repeatedly criticized by Pyongyang - finished end April, or a stabilized tense climate. The absence of any recent provocative move or aggressive rhetoric might be a sign that Kim Jong-un is looking for a way out or is preparing a next move. Even though the most likely bet is an eventual return to dialogue, the outcome of the poker game is uncertain as there is no precedent with Kim Jong-un. In any case, if a military conflict occurred, South Korea’s political risk would be downgraded.

Analyst: Raphaël Cecchi, r.cecchi@credendogroup.com