North Korea's Kaesong Clamor

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The border closures and detention sent alarm bells ringing among some businessmen, particularly buyers of goods made in Kaesong. "Lots of contract work is drying up at Kaesong because companies dealing with seasonal products are afraid that orders can't be met in time and they will lose business opportunities," notes Yoo at SJ Tech; the company's monthly output value at Kaesong has dropped to $7.5 million, from $15 million last year. In 2008, SJ Tech managed to break even after investing $10 million in its Kaesong plant over the four previous years. Yoo says his company's Kaesong operation is now losing some 30 cents on every dollar of revenue.

What's more, North Korea in May declared it was canceling all wage, rent, and tax agreements with South Korea over the Kaesong complex. It has also warned that Southern companies should pull out unless they are willing to respect new rules and terms to be set by the North. "The recent steps at Kaesong will pose huge risks for North Korea among international investors as they destroy fundamental trustworthiness in business dealings with the country," says Jeong Hyung Gon, a researcher at the Korea Institute for International Economic Policy, a Seoul-based state-funded think tank.

Asking for a 400% Raise

Already, falling exports by factories operating at Kaesong underlines waning confidence in the industrial park. Exports plunged 56% in the first four months of this year, to $7.15 million from $16.3 million in the 2008 period, even though the number of companies operating there jumped to 104 at the end of April, from 69 a year earlier, according to data compiled by the South's Unification Ministry. Total output, however, fell only 6.6% to $74.54 million in the four months as many factories managed to replace exports with cheaper local assembly work to minimize losses.

North Korea piled more bad news on the companies on June 11. During the Thursday talks at Kaesong, the North notified the South that it wants to increase the average monthly wage to $300, from about $75 now. "Such a wage level will spell an end to the Kaesong complex," says Jung Seung Eui, director of manufacturing at Samduk Tongsang, which employs 2,800 North Korean workers at Kaesong to make 80,000 pairs of shoes—mostly for running and hiking—per month. Chung notes Kaesong operations could easily be replaced with contract workers in China at a wage of $150 a month.

Backing down from an earlier take-it-or-leave-it declaration, the North left a door open for compromise. Before ending Thursday's meeting, North and South Korean officials agreed to further negotiations on June 19. Watchers of the North say given that North Korea earned cash worth between $500 million and $600 million annually through trade, aid, and cooperative projects such as Kaesong with South Korea, the stakes are high in its gambit with the South. Nevertheless, "the key to North Korea's survival is held by China," says Lee Young Hoon, North Korea specialist at Bank of Korea, the South's central bank. Lee points out that China's trade with North Korea nearly quadrupled from $740 million in 2002 to $2.79 billion in 2008—a pace that could make up for North Korea's losses resulting from its isolation.

Moon is BusinessWeek's Seoul bureau chief.

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