North Korea and the Politics of International Trade Law: the Kaesong
Industrial Complex and WTO Rules of Origin. By Daniel J. Knudsen &
William J. Moon?
The Kaesong Industrial Complex (KIC), a new joint economic venture
between the Democratic People?s Republic of Korea (North Korea) and the
Republic of Korea (South Korea), is becoming a nexus of controversial issues
in international trade law. The manufacturing centers at Kaesong, located in
North Korea, use North Korean labor and South Korean capital to produce
labor-intensive products like clothes, shoes and watches. These goods are
then shipped to South Korea and either consumed there or exported 2.
The export of KIC goods could be problematic under the World Trade
Organization?s (WTO) Rules of Origin and rules on preferential treatment.
North Korea is not a member of the WTO, and its human rights record and
isolationism make it a highly polarizing state. States that have allowed KIC
goods to be treated as goods produced in South Korea are pursuing a policy
that may violate WTO regulations. Through South Korea?s membership in the
WTO and South Korean Free Trade Agreements (FTAs), the goods produced
in the KIC bypass many of the trade sanctions placed upon North Korean
With the resumption of daily cross-border traffic into the KIC this
summer, the resurgence of economic cooperation between North and South
Korea brings these trade issues into international focus once again 4. There are
also important issues for the U.S. government to consider, in light of the U.S.-
Korea Free Trade Agreement, signed but not yet in force. While the issue of
the KIC has received some attention in the literature, scholars have yet to
scrutinize WTO law and the other legal issues that surround the topic. This
piece presents an overview of the KIC and the legal issues it raises, provides
preliminary analysis of these issues, and raises awareness of the important
policy implications that the U.S. government should consider.
The development of the KIC dates to 1989, when Hyundai Asan, one of
the largest conglomerates in South Korea, first engaged with North Korean
leadership to develop a special economic zone in North Korea. In 2000,
Hyundai Asan offered US$500 million to Pyongyang in return for exclusive
? The authors would like to thank Professor Lea Brilmayer of Yale Law School, Research
Professor Lim Eul-chul of Kyungnam University in South Korea, and the editorial staff of the Yale
Journal of International Law.
1. Moon Ihlwan, North Korea?s Kaesong Clamor, BUS. WK., June 11, 2009, available at
2. Ho Cheol Kim, Does Annex 22-B of the Proposed United States-Korea Free Trade
Agreement Contemplate and Allow for Trade with Respect to North Korea?, 40 GEO. J. INT?L L. 67, 71-
3. See generally James T. Laney & Jason T. Shaplen, How To Deal with North Korea,
FOREIGN AFF., Mar.-Apr. 2003, at 16 (2003) (discussing rising tensions in the Korean peninsula);
Stephan Haggard & Marcus Noland, North Korea in 2008: Twilight of the God?, 49 ASIAN SURVEY 98
(2009), available at http://caliber.ucpress.net/doi/pdf/10.1525/as.2009.49.1.98 (discussing recent
developments in North Korean international relations).
4. Choe Sang-Hun, North Korea Opens Border; Again Calls for U.S. Treaty, N.Y. TIMES,
Sept. 2, 2009, at A8; Evan Ramstad & Sungha Park, Pyongyang Raises Ire on Industrial Complex,
WALL ST. J., June 12, 2009 (describing how production at the KIC has frequently been interrupted by
changing political circumstances in the region).
Electronic copy available at: http://ssrn.com/abstract=1584328
252 THE YALE JOURNAL OF INTERNATIONAL LAW [Vol. 35: 251
business rights over the development of sixty-six million square meters in
Kaesong 5. Despite political setb 6acks between the two countries, North Korea
eventually passed the Kaesong Industrial Zone Law on November 20, 2002.
On December 23, 2002, North Korea granted Hyundai a Land Use Permit and
on June 30, 2003 groundbreaking ceremon 7ies took place. Production of
goods started in 2004, and has progressed unevenly since then 8.
From a business perspective, the KIC has several attractive features.
First, North Korean authorities established the minimum wage at US$68.10
per month in 9 2007, which is ?lower than the average wage of workers at
Qingdao, China, which is approximately US$100 [per month], and is only
43% of the wages of Hochimin City, Vietnam (US$134 per month 10).?
Secondly, the corporate income tax rate of 10-14% is better than South
Korea?s 13-25%, China?s 15%, and Vietnam?s 10 11-15%. These features have
led to a proliferation of trade between North Korea and South Korea since the
opening of the KIC: in 2008, the total commercial exchange reached US$1.82
b 12illion, accounting for 45% of North Korea?s total trade. As of February
2009, 101 South Korean companies employ about thirty-nine thousand North
Koreans in the complex 13. The explosive growth of the KIC is only the
beginning, as estimates from the South Korean government suggest that when
the complex is fully operational sixteen hundred businesses, employing
ninety-nine thousand workers, will account for US$17.1 billion in annual
ou 4tpu 1t.
Despite these ambitious plans and the resumption of manufacturing in
the KIC, there has been little transnational legal scrutiny of the treatment of
goods manufactured at the KIC with regards to rules of origin.
Controversially, the policy of treating the goods as South Korean in origin
would de facto grant some goods produced in North Korea the treatment
accorded to those from a state with most-favored-nation (MFN) status under
the WTO 15, and these goods would benefit even further from some of South
Korea?s FTAs. In this section, we discuss the WTO Rules of Origin and
highlight one WTO panel decision that may be instructive in predicting the
outcome of legal challenges relating to the production of goods at the KIC.
5. LIM EUL-CHUL, KAESONG INDUSTRIAL COMPLEX: HISTORY, PENDING ISSUES, AND
OUTLOOK 15-17 (2007).
6. Joongi Kim, The Challenges of Attracting Foreign Investment into North Korea: The
Legal Regimes of Sinuiju and Gaeseong, 27 FORDHAM INT?L L.J. 1306, 1309 (2004) (discussing the
impact of the war against terror, a skirmish in the Yellow Sea between North Korean and South Korean
naval forces, and Hyundai Asan?s financial troubles).
7. Id. at 1309-10.
8. See, e.g., Choe Sang-Hun, Joint Project Puts 2 Koreas at Odds Again, N.Y. TIMES, Apr.
21, 2009, at A7.
9. EUL-CHUL, supra note 5, at 147.
10. Id. at 72.
11. Id. at 73. In addition, South Korean companies conducting business in North Korea are not
required to pay taxes in South Korea. See id.
12. U.S. Dep?t of State, Background Note: South Korea (Oct. 2009), http://www.state.gov/r/
14. EUL-CHUL, supra note 5, at 60.
15. The most-favored-nation principle of the WTO articulates that importing nations may not
treat member states differently when granting trade advantages (e.g., tariffs, quotas).
Electronic copy available at: http://ssrn.com/abstract=1584328
2010] Recent Developments 253
Since there is no doctrine of stare decisis in WTO dispute settlements, our
analysis is necessarily rooted in the context of the political economy of
In response to concerns about rules of origin as barriers to trade, the
WTO passed the 1994 Agreement on Rules of Origin 16, attempting to
harmonize disparate sets of ru 17les. The Agreement sets out two types of rules
of origin: preferential rules of origin and nonpreferential rules of origin.
Preferential rules of origin are rules tied to side agreements between two or
more states and are different from nonpreferential rules in that
?[nonpreferential rules of origin] are not related to contractual or autonomous
trade regimes leading to the granting of tariff preferences going beyond the
application of paragraph 1 o 18f Article I of GATT 1994.? The WTO Rules of
Origin do not apply to preferential trading arrangements between two or more
countries, such as the ?Generalized System of Preferences (GSP), free trade
areas, [and] bilateral and regional integration 19 agreements.? Rules not falling
under these exceptions are treated as nonpreferential, bound by the WTO
Rules of Origin.
Export of KIC goods involves both types of rules of origin. For
countries that have bilateral trade agreements with South Korea, the specific
FTAs will govern the origin status of KIC goods. South Korea has
aggressively negotiated with its trading partners to treat goods from the KIC
as South Korean goods, using special rules in their FTAs to determine origin
status. This resulted in the Association of South East Asian Nations (ASEAN)
acknowledging KIC products as ?Made in Korea,? and the European Free
Trade Association (EFTA) and Singapore have also granted tariff preferences
for KIC-manufactured goods, treating them as South Korean good 20s. South
Korea?s FTA with Singapore uses an Integrated Sourcing Initiatives rule in
which ?the sole requirement [for origin] . . . is that goods must be directly
exported from the territory of South Korea, irrespective of the origin status of
the good 2s.? The FTAs with EFTA and ASEAN use an Outward Processing
approach 22. These are both methods of avoiding a North Korean designation
for Kaesong goods.
For countries that have not entered into FTAs with South Korea, KIC
goods follow the nonpreferential rules of origin. China, for example,
announced that goods produced in the KIC would be treated as South Korean
good 23s. Since China has not entered into an FTA with South Korea,
nonpreferential rules of origin apply. But origin determinations under these
rules are ambiguous; the WTO?s determinations have been subject to various
16. Agreement on Rules of Origin, Apr. 15, 1994, 1868 U.N.T.S. 397.
17. John Coyle, Essay, Rules of Origin as Instruments of Foreign Economic Policy: An
Analysis of the Integrated Sourcing Initiative in the U.S.-Singapore Free Trade Agreement, 29 YALE J.
INT?L L. 545, 550 (2004).
18. Agreement on Rules of Origin, supra note 16, art. 1.
19. INT?L TRADE CTR., RULES OF ORIGIN IN EXPORT CREDIT INSURANCE 1 (2000).
20. EUL-CHUL, supra note 5, at 189.
21. Kim, supra note 2, at 78.
23. China To Recognize Kaesong Goods as Made in S. Korea, CHOSUN ILBO (Seoul, S.
Korea), July 3, 2006, http://english.chosun.com/site/data/html_dir/2006/07/03/2006070361043.html.
254 THE YALE JOURNAL OF INTERNATIONAL LAW [Vol. 35: 251
criticisms for their subjectivity and inconsistent ou 24tcomes. According to
Article II of the Agreement on Rules of Origin, a product is conferred the
status of origin where ?wholly obtained? or, if multinationally produced, ?the
country where the last substantial transformation has been carried ou 25t.? The
WTO has not clearly defined ?substantial transformation.? In fact, according
to a panel report interpreting Article II of the Agreement on Rules of Origin,
members are granted ?considerable discretion in designing and applying their
rules of origin? until the harmonization of the rules is completed 26.
It seems that it will be difficult for KIC products to qualify as South
Ko 7rean goods under Article II of the Rules of Origin 2. First, KIC goods, by
definition, cannot possibly be ?wholly obtained? in South Korea. Second, they
are unlikely to meet the standards of the proposed ways of ascertaining
?substantial transformation.? The general principle largely accepted is to grant
origin status to the place where the ?last substan 8tial process? took p 2lace.
Three alternative methods further define substantial transformation: a
?domestic content test,? which enumerates the degree of transformation
necessary to confer origin to the good; a ?technical test,? which confers origin
to the product if the product undergoes a specific processing procedure; and
the ?change in tariff classification? method, which determines rules of origin
based on changes in tariff classification 29. While the majority of the products
from the KIC are shipped to South Korea before being exported, no material
transformation goes into the goods after they are produced in the KIC. Despite
the large degree of discretion granted by the rules of origin in the transitional
period, granting origin status to a country that simply served as an
intermediary merchant seems to defy any common understanding of
On the other hand, arguments can be made for conferring South Korean
origin status on goods produced in the KIC due to the unique nature of the
special economic zone. First, South Korea plays a large role in supplying the
inputs used in production. The South Korean government, for example, chose
Korea Electric Power Corporation (KEPCO) as the electricity provider for the
KIC. KEPCO provides to the KIC fifteen thousand kilowatts per hour of
South Korean electricity 30. More importantly, KIC companies bring all
resources?sand, gravel, and agricultural goods?from South Korea, as North
Korea is no 31t providing any raw materials. All these factors could allow some
KIC goods to fail the WTO rules, depending on how much transformation
actually occurs in North Korea.
24. See N. David Palmeter, The U.S. Rules of Origin Proposal to GATT: Monotheism or
Polytheism?, J. WORLD TRADE, Apr. 1990, at 36.
25. Agreement on Rules of Origin, supra note 16.
26. Panel Report, United States?Rules of Origin for Textiles and Apparel Products,
WT/DS243/R (June 20, 2003) [hereinafter WTO Panel Report].
27. This would mean that the Chinese policy of treating KIC goods as South Korean goods
could be in violation of WTO rules.
28. Moshe Hirsche, Asymmetric Incidence of Rules of Origin, J. WORLD TRADE, Aug. 1998, at
30. EUL-CHUL, supra note 5, at 202.
31. Id. at 194.
2010] Recent Developments 255
While the origin of KIC products is theoretically debatable, due
consideration should be given to whether a WTO challenge will ever take
place. Three factors suggest that the KIC origin policies are unlikely to be
challenged in the foreseeable future. First, since broad authority is given to the
importing country in interpreting the Ru 32les of Origin, WTO members will be
wary of litigating an issue that is unlikely to win. Second, even if granting
South Korean origin to KIC goods is legally questionable, it conforms to the
general WTO principle of reducing trade barriers. Third, countries importing
KIC-produced goods will economically benefit from the cheap North Korean
labor supply. In calculating the realistic possibility of a WTO challenge, these
factors should be weighed against the tendency for governments to use Rules
of Origin as a tool for protectionism and against the deep political concerns
that many countries have relating to both human rights violations and the
nu 33clear program in North Korea.
The KIC presents large policy implications for the United States. The
development of the KIC has allowed goods produced by North Korean labor
unprecedented access to international markets, allowing the regime to secure
much-needed foreign currency. This could weaken U.S. leverage in
negotiations with North Korea, since the United States has relied heavily on
trade sanction 34s.
The U.S.-South Korea FTA (KORUS FTA), signed in 2007 and
awaiting legislative approval in both countries, complicates the issue further.
Should the United States approve the KORUS FTA, the WTO preferential
rules of origin would govern, displacing default nonpreferential rules of
origin. Currently, the language of the KORUS FTA denies goods produced in
the KIC duty free status, although the two states have set up a committee that
will consider whether KIC goods will be deemed goods originating in South
Ko 35rea. Special rules used in past U.S. FTAs, including Integrated Sourcing
Initiatives, Outward Processing, and Qualifying Industrial Zone regimes,
could influence the committee in its KIC deliberation 36s. Since trade sanctions
have been the primary tool for U.S. leverage over North Korea, this
committee could serve as an important instrument for inducing political
change in North Korea.
The U.S. government needs to weigh multiple issues in considering
whether to treat KIC goods as South Korean goods. On the one hand, the rise
of the KIC will increase North Korea?s access to foreign funds, which could
be used to continue its nuclear program and fuel the authoritarian regime. On
the other hand, improvement in North Korea?s foreign funds supply could
reduce the tendency of North Korea to sell weapons to international terrorist
32. WTO Panel Report, supra note 26.
33. See MICHAEL E. O?HANLON & MIKE MOCHIZUKI, CRISIS ON THE KOREAN PENINSULA:
HOW TO DEAL WITH A NUCLEAR NORTH KOREA 2 (2003) (proposing an agenda that will address the
?acute nuclear weapon crisis? and ?human rights issues?).
34. See Franklin L. Lavin, Asphyxiation or Oxygen? The Sanctions Dilemma, FOREIGN POL?Y,
Fall 1996, at 138, 151 (discussing various ways in which the United States could impose or lift sanctions
to induce certain behavior by the North Korean government).
35. Suk Hi Kim, The Korea-U.S. Free Trade Agreement of April 1, 2007, and Kaseong
Industrial Complex, 3 N. KOREAN REV. 119, 126 (2007).
36. See Kim, supra note 2, at 75.
256 THE YALE JOURNAL OF INTERNATIONAL LAW [Vol. 35: 251
organizations for fast foreign cu 7rrency 3. As Michael E. O?Hanlon and Mike
Mochizuki have argued, such economic improvement would be an important
p 38iece in discouraging the regime?s ?extortionist behavior.? Moreover,
increased access to foreign currency could be used to alleviate domestic food
shortage by facilitating the import of more food. The KIC could also serve as
an important starting point for North Korean economic integration that could
induce a political shift in the region.
The KIC represents a new avenue for the international community to
deal with North Korea. WTO Rules of Origin play an extremely important
role here because if KIC goods are treated as South Korean goods, North
Korea is presented with the opportunity to bypass high tariff barriers that
previously made its products prohibitively expensive for international
consumers. The WTO Rules of Origin appear to permit a policy treating KIC
goods as South Korean goods for those states that have bilateral trade
agreements with South Korea (assuming that they include specific provisions
to that effect), but the issue remains complicated for states that do not have
such agreements with South Korea. This has large implications for the United
States, because acceleration of North Korea?s access to international markets
could undermine U.S. leverage over the authoritarian regime. We argue that
the United States should be carefully attuned to the new challenges and
opportunities that the KIC presents in developing further policy decisions
toward North Korea and the pending KORUS FTA.
37. See O?HANLON & MOCHIZUKI, supra note 33, at 4 (?Pushing North Korea to the brink
may also increase the odds that it will sell plutonium to the highest bidder to rescue its economy.?); see
also Daniel A. Pinkston & Phillip C. Saunders, Seeing North Korea Clearly, 45 SURVIVAL 79, 89 (2003)
(discussing President Bush?s 2002 State of the Union Address, in which the President suggested that
North Korea might provide terrorist groups with weapons of mass destruction).
38. See O?HANLON & MOCHIZUKI, supra note 33, at 4.