$50 Billion Downpayment on a Reunified Korea

Ashby Monk

In 2009, twenty years after the Berlin wall came down, research showed that the cost of reunification between West and East Germany had totalled up to something in the range of $2 trillion. That’s a hefty price tag, even for an economy as strong and dynamic as Germany’s. Fast forward to 2011: The sticker shock of Germany’s reunification is now making waves in Korea, where South Korea’s Unification Minister Yu Woo Ik has developed a plan to set money aside in a new sovereign fund that would minimize the fiscal burden from an eventual reunification with the North. In short, Yu believes that although reunification remains a remote possibility, the fiscal burden of that reunification still warrants the accumulation of precautionary reserves.

Anyway, here’s the scoop from Brian Fowler and Eunkyung Seo of Bloomberg:

“South Korea will set up a fund as early as this year to begin raising up to 55 trillion won ($50 billion) to pay for its eventual reunification with North Korea…The fund would meet the minimum cost of unification estimated by external researchers, assuming it takes place within the next 20 years and is a peaceful transition, according to his ministry.”

“We’re looking at the issue of how to finance the possible unification from various perspectives, considering public opinion and fiscal conditions,” said Suh Kyu Sik, a deputy director of the Finance Ministry. “Unification is one of major reasons that we are trying to improve our fiscal strength as fast as possible.”

This then raises the question of how this will all be financed. Here’s the government’s view:

“Individual Koreans at home and abroad will be able to make donations to the fund and the government in Seoul may earmark money including budget surpluses, Unification Minister Yu Woo Ik said in his first interview since being sworn in on Sept. 19. While foreigners will also be allowed to donate, there is no plan to ask overseas governments to contribute, he said.”

No doubt the donations won’t amount to much, but it’s at least a way to get the idea of building up this buffer fund on people’s minds (which may, in turn, lead the government to actually earmark revenues for the new fund).

For SWF aficionados, there may be some head scratching going on over Korea’s new fund, which is fair. After all, what does planning for reunification have to do with sovereign wealth? For some insight, I thought I’d just regurgitate something I published last year in EPA (here’s the working paper for non-subscribers):

“Whether the SWF has a mandate to fill an unfunded pension liability through investments in riskier assets or has a mandate to smooth volatile commodity prices, these funds represent an attempt by governments to manage their future; acting as ‘insurers of last resort’ for a given domestic problem…SWFs thus offer a chance to make reliable and consistent plans in an environment that is increasingly subject to volatility and market-based short-termism.”

In other words, a government sets up a sovereign fund to manage economic uncertainty with a view to ensuring nation-state autonomy. It’s really that simple. So a new Korean SF to mute the economic and financial risks of reunification makes sense; the government is establishing a long-term vehicle to help manage a long-term risk.

All that being said, it is slightly different from setting up a sovereign fund to pay for schools (as in the USA) or pensions (as in NZ) or infrastructure (as in Russia). These latter factors are current and pressing issues, which makes setting up a SWF all the more understandable and legitimate. As I see it, reunification isn’t a sure thing, which makes setting aside revenues a bit harder to justify.

But, perhaps, that’s the point: By setting aside money in a sovereign fund, the South Korean government is, in effect, signaling to the North and the world that reunification will indeed happen; that it’s just a matter of time. Fascinating stuff.

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This website is a project of Professor Gordon L. Clark and Dr. Ashby Monk of the School of Geography and the Environment at the University of Oxford. Their research on sovereign wealth funds is funded by the Leverhulme Trust and The Rotman International Centre for Pension Management.

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