Rigorous Speculation: The Collapse and Revival of the North Korean Economy MARCUS NOLAND Institute of International Economics, Washington, DC, USA SHERMAN ROBINSON International Food Policy Research Institute, Washington, DC, USA and TAO WANG * Florida International University, Miami, FL, USA Summary. Ð In this paper, we use cross-entropy estimation techniques to construct the underlying data base for a computable general equilibrium model (CGE) of the North Korean economy, starting from incomplete data, ridden with gross measurement errors. The cross-entropy estimation approach is powerful and ¯exible, allowing us to make full use of what information we have in whatever form. CGE modeling forces internal consistency. The end product is a model that incorporates fragmentary information in a rigorous way and allows us to examine the implications of a number of alternative scenarios including rehabilitation of ¯ood-aected lands, liberalization of the international trade regime, and military demobilization. North Korea has been experiencing a famine. Its economy is characterized by systemic distortions and comparative disadvantage in the production of grains. As a consequence, the potential payos to economy-wide reforms, even de®ned narrowly in terms of domestic food availability, dwarf more targeted attempts to raise agricultural productivity. To many, this ®nd- ingÐthat a famine might be better addressed by the export of manufactures than the recovery of ¯ood-damaged landsÐis a striking and counterintuitive result. Moreover, we ®nd that if reforms were to be undertaken, the country could generate a signi®cant additional ``peace dividend'' by partially demobilizing its enormous military. Ó 2000 Institute for International Economics. Published by Elsevier Science Ltd. All rights reserved. Key words Ð Asia, North Korea, CGE models, reform, transitional economies 1. INTRODUCTION As well as can be ascertained, North Korea is now into its eighth year of economic decline. It has been facing food shortages at least since the early 1990s and is well into a famine of unknown magnitude. 1 Despite its desperate internal situation, the government maintains the most militarized society on earth, with more than one million men (and increasingly women) under arms and an estimated 25% of gross domestic product (GDP) devoted to military expenditures (US ACDA, 1997). Economic reform could have enormous bene®ts in this highly distorted economy, especially in light of the country's dire situation. Yet, at the same time, the eects of reformÐa signi®cant increase in exposure to international trade and investment (much of this with South Korea and Japan, two countries with which North Korea maintains problematic relations) and huge World Development Vol. 28, No. 10, pp. 1767±1787, 2000 Ó 2000 Institute for International Economics. Published by Elsevier Science Ltd. All rights reserved. Printed in Great Britain 0305-750X/00/$ - see front matter PII: S0305-750X(00)00057-7 www.elsevier.com/locate/worlddev * We would like to thank seminar participants at Hitotsubashi University, the Institute for Global Economics, the Korea Institute for International Eco- nomic Policy, and Korea University, and an anonymous referee for helpful comments on earlier presentations of this material. Mina Kim provided research assistance. Final revision accepted: 28 March 2000. 1767