The Consequences of China’s Informal Sanctions on South Korea Over THAAD

Shortly after the United States and South Korea began negotiations on the deployment of the Terminal High Area Altitude Area Defense (THAAD) system in early 2016, China’s ambassador to South Korea warned that deploying the missile defense system could “destroy” South Korea’s relations with China. While the decision to deploy THAAD hasn’t destroyed relations between China and South Korea, it has resulted in damage to the South Korean economy and Lotte Mart’s planned exit from China later this year.

The controversy over THAAD developed as a result of the United States and South Korea’s desire to address the growing threat from North Korean missiles and Chinese national security concerns. To track incoming missiles from North Korea, THAAD uses an X-band radar system. While THAAD wouldn’t have the ability to intercept Chinese intercontinental-range ballistic missiles targeting the United States, China was concerned about the system’s ability to see into its territory.

When the United States and South Korea reached an agreement in July 2016 to deploy THAAD, China sought to exploit its economic relationship with South Korea and began a campaign of informal sanctions to dissuade South Korea from moving forward with the system’s deployment. Beijing was able to turn to economic pressure because more than a quarter of South Korea’s exports go to China. In contrast, the United States only accounts for 12 percent.

China’s retaliation against South Korea was multilayered and targeted. A story in Xinhua warned Lotte it was “playing with fire” if it agreed to a land exchange with the South Korean government where THAAD would be deployed. This and China’s subsequent actions sent a signal to other companies about what happens if you cross Chinese security interests. Beijing also targeted areas such as tourism, where China represented a significant portion of the market, and industries such as cultural content, where it had no obligation under the WTO or the Korea-China free trade agreement (FTA) to provide access to South Korea producers. At the same time, China was careful to only target areas that would have a limited impact on the Chinese economy.

Because of the opaque nature of China’s actions, it is also difficult to discern which actions are THAAD related and to what extent. When THAAD was deployed in March 2017, Hyundai sales in China dropped by nearly 50 percent, demonstrating a clear connection to China’s informal campaign against THAAD. However, Hyundai had already seen its market share in China decline prior to THAAD, making it difficult to disaggregate the impact of THAAD from the challenges it already faced in China. Similarly, electric vehicles that use batteries from Samsung SDI and LG Chem were excluded from eligibility for Chinese subsidies, but Samsung and LG account for 40 percent of the global battery market, which China hopes to dominate in the future, raising the question about whether these actions are related to THAAD or Beijing’s own industrial goals.

What is clear, however, is that Lotte, tourism, and the cultural industry have been hit particularly hard.

Prior to THAAD, Lotte had been slow to move into digital commerce in China and saw declining sales in China. However, 87 of its 99 Lotte Mart stores in China were closed for more than a year due to alleged fire safety violations, causing  an estimated loss of 1.2 trillion won ($1.06 billion). With losses growing from the closures, Lotte sold off much of its business in the first half of 2017 and is set to finalize its withdrawal from the Chinese market with the closure of its remaining stores later this year.

The tourism industry in South Korea also experienced significant declines. Prior to THAAD, Chinese tourists accounted for nearly 50 percent of the tourists in South Korea. In 2017, the number of Chinese tourists declined by 48 percent. The decline likely cost South Korea’s tourism industry a little over $8 billion based on the average spent by Chinese group tourists in 2015. In recent months, China has begun allowing group tours to resume, but the number of Chinese tourists heading to South Korea was running 2.5 million behind pre-THAAD levels in 2018 through August. While August saw the highest level of Chinese tourists in South Korea since the THAAD row began, the numbers are still 45 percent below August 2016.

While sheer numbers are down, the Korea Tourism Organization estimates that the amount that Chinese tourists spend in South Korea is down as well. At a minimum, the loss to South Korea’s tourism industry is likely over $13 billion for 2017 and 2018 compared to pre-THAAD levels.

Prior to THAAD, exports of South Korean dramas and K-pop were mainstays of cultural exports to China; rights sales for South Korean film and TV dramas in China virtually disappeared after THAAD, along with a collapse in co-productions. At the height of the ban in 2016 and 2017, no South Korean movies were released in China. K-pop artists faced visa restrictions and restrictions on the streaming of new music videos. The most recent data indicates that in 2015, the South Korean music industry had nearly $90 million in exports to China. That represented an increase of nearly 200 percent, making China the second largest market for exports by the South Korean music industry and a growing market for South Korea prior to THAAD.

Restrictions on cultural content may finally be loosening. In April, the Beijing International Film Festival invited seven South Korean films, while the South Korean film Monstrum was recently licensed for release in China.

While South Korea has faced economic pressure from China, there has been little public support from the United States. President Donald Trump has been clear in his displeasure of China’s trade practices with the United States, but he has been silent on China’s actions to pressure South Korea. Rather than publicly address the matter, Trump has instead taken the opportunity to criticize South Korea over the cost of THAAD’s deployment. In April 2017, as China was ramping up its efforts to pressure South Korea, Trump said, “I informed South Korea it would be appropriate if they paid [for THAAD]. It’s a billion-dollar system.” More recently at a rally in Council Bluffs, Iowa, Trump mused to supporters, “[S]o let me get this, we have a system that's very expensive and we shoot down rockets that are shot from North Korea to South Korea … Okay, so we're protecting South Korea, right? Why aren't they paying?”

The focus on the cost to the United States, rather than China’s actions, means that the U.S.-Korea alliance has not developed a way to deal with informal Chinese sanctions should Beijing seek in the future to pressure Seoul through economic means to implement a national security decision more in line with its preferences. While China’s actions have cost South Korea $13 billion in lost tourism revenue, and even more in auto sales, cultural exports, and pushed Lotte Mart out of China, the lack of a clear plan and sympathy from the United States to address Chinese tactics in the future might be the most significant consequence of the dispute over THAAD’s deployment.