North and South Korea should accept international arbitration to redraw their disputed Yellow Sea border and ease the danger of all-out war, an influential international think-tank says.

"Measures must urgently be adopted to reduce the possibility of all-out war," the International Crisis Group (ICG) said in a report released late Thursday.

"The disputed nature of the maritime boundary, the Northern Limit Line (NLL), and the unpredictability of Pyongyang politics have substantially increased volatility."

The North has never recognised the line drawn by United Nations forces after the 1950-53 Korean War. The area was the scene of deadly naval clashes in 1999, 2002 and November 2009.

In March a South Korean warship sank near the border with 46 deaths and Seoul blamed a North Korean torpedo attack — a charge Pyongyang denied.

A South Korean firing drill on a Yellow Sea border island last month prompted a North Korean bombardment which killed four people including civilians, and sent tensions soaring.

"Relations between the two Koreas are at their worst point in more than a decade, with much of the progress of recent years undone," said Daniel Pinkston, the ICG's deputy project director for Northeast Asia.

After a week of new South Korean military drills, the Brussels-based ICG said the "restoration of robust deterrence" against the North was necessary but not enough to prevent war.

It said the two Koreas should submit the border issue for arbitration through the International Court of Justice or a tribunal under the framework of the UN Law of the Sea convention.

They should also halt live-fire artillery drills near the sea border.

The ICG urged Washington to make it clear to Seoul that the NLL is not a maritime boundary, and that the two parties must try peacefully to settle the dispute in accordance with international law.

But the United States should also emphasise that attacks will not be tolerated.

At the same time, the report said, Washington and Seoul must be prepared to engage Pyongyang and return to six-party talks on the North's nuclear disarmament.

China, the North's sole major ally, "should advocate publicly and privately for North Korea not to launch further attacks against South Korea".

The ICG said the North appears to have raised tensions as part of the power transition from Kim Jong-Il to his youngest son Jong-Un.

The attacks are an apparent attempt "to give the inexperienced heir some appearance of military and strategic prowess", it said.

"They also signal to potential rivals among North Korean elites that Kim Jong-Il is willing to take on the South to promote his son and he would therefore have no problem confronting domestic opponents."

There is "a real danger" that the North will continue its attacks, it said.

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