World Economy

North Korea's missile launch a 'real test' for China

Key Points
  • China has the greatest economic sway over North Korea and wants to maintain the status quo around the state's nuclear threat.
  • However, North Korea's latest missile launch over Japan puts pressure on China to act.
  • China's Foreign Ministry says the situation is nearing a "tipping point."
Chinese President XI Jinping arrives during the Belt and Road Forum for International Cooperation in Beijing, China, May 14, 2017.
Mikhail Svetlov | Getty Images

North Korea's missile launch over Japan has made China's job much harder, analysts say.

"I think this is a real test of China," Robert Manning, senior fellow at think tank Atlantic Council, told CNBC. "They know well the North Koreans have really changed the game with this and raised the stakes."

"At this point there should be no excuse for doing business with North Korea's procurement network," Manning said. "If the Chinese aren't willing to do that then [they're] just not serious."

North Korea fired a ballistic missile that passed over Japan early Tuesday morning local time, or late Monday Eastern time. Local broadcaster NHK said Japan took no action to shoot down the missile, which later broke into three pieces and fell into the sea.

North Korea demonstrating it has range to reach Guam: Amb. Nicholas Burns
North Korea demonstrating it has range to reach Guam: Amb. Nicholas Burns

More than two-thirds of North Korea's trade is with China, and many analysts say Beijing could do much more to dampen economic activity. Earlier this year, China suspended coal imports from North Korea, and on Friday, China's commerce ministry banned North Korean individuals and enterprises from doing business in China.

But in the key area of energy supply, Beijing has done little.

"China refuses to agree on enemy sanctions because they don't want to destabilize North Korea and rightly so, because you don't know what you're dealing with," said Anwita Basu, The Economist Intelligence Unit's lead analyst for Indonesia, the Philippines and North Korea.

Beijing would like to maintain the status quo of unresolved tensions around North Korea and its nuclear threat, because a collapse of dictator Kim Jong Un's state would likely cause an unwanted flow of refugees into the poor northeastern part of China and potentially bring the U.S. or its ally, South Korea, closer to China's borders.

Keeping North Korea stable is especially important for China as it holds the 19th Communist Party Congress this fall, at which Chinese President Xi Jinping is expected to consolidate his power.

In response to the missile launch, China's Foreign Ministry spokesperson Hua Chunying said in a daily briefing Tuesday that "the situation is indeed nearing the critical tipping point of crisis which could also be a turning point for us to return to peace talks."

But the Chinese foreign ministry stopped short of condemning the launch, instead calling again for restraint and dialogue.

In contrast, Japanese Prime Minister Shinzo Abe said the missile firing was reckless and an unprecedented, serious and significant threat. U.S. President Donald Trump said in a separate statement on the missile launch that "all options are on the table."

The missile firing came as the U.S. and South Korea are conducting joint military exercises. The launch also followed short-range missile tests early Saturday local time, and the de-escalation of heated threats in the last few weeks around the U.S. territory of Guam in the Pacific Ocean.

"North Korea found a sweet spot of provocations," Bruce Bennett, senior defense analyst at Rand, told CNBC. "We need to find the sweet spot to convince Kim Jong Un not to continue doing it."

The U.S. Treasury has stepped up sanctions on Chinese companies and individuals linked to North Korea. The U.S. is also increasing pressure on China over trade by launching this month a "Section 301" investigation into intellectual property theft.

For now, market analysts are betting on a contained situation in which North Korea gradually builds up its nuclear ability without seriously threatening regional peace.

"If expert views prevail, an uneasy equilibrium scenario looks more likely," Deyi Tan, economist at Morgan Stanley Asia, and a team of other strategists said in an Aug. 23 report. "North Korea does not denuclearize. Action/reaction between various parties mean we oscillate between temporary escalation and de-escalation."

"Until policymakers find a lasting solution to geopolitical tensions, markets will also need to be mindful of the potential spillover of geopolitics into US-China trade," the report said.