By Vidula Wanigasekara, Financial Analyst-Lanka Rating Agency
Sri Lanka’s export sector faces significant headwinds as the U.S. imposes a new 20% tariff on top of existing Most Favoured Nation (MFN) rates, effective August 7, 2025. This move, following an earlier provisional 30% tariff, will particularly impact apparel exports, which constitute nearly 70% of Sri Lanka’s goods shipped to the U.S. The combined tariff burden, now exceeding 30% for apparel, threatens the profitability of local exporters and could lead to job losses for the 350,000 individuals employed in the industry.
Recently, the Trump administration confirmed the applicable U.S. tariffs on Sri Lanka, setting them at 20% in addition to the Most Favoured Nation (MFN) customs duty, which will come into effect from August 7, 2025. This final 20% rate follows an earlier provisional tariff of 30% that was imposed prior to this adjustment. While the current MFN duty is negligible for most exported goods, it remains relatively high for apparel exports, at approximately ~12-15%. This means the total tariff on apparel exports exceeds 30%, significantly impacting Sri Lanka’s local exports to the U.S., where apparel accounted for approximately ~69% of all Sri Lankan goods exported to the U.S in 2024. This report further delves into its impact on Sri Lanka’s export competitiveness and the national balance sheet. The following table shows a quick overview of the tariff applicable for the major export industries, but it should not be ignored that this is subject to change.
Impact on Exporters
Of the total $2.9 billion worth of exports to the U.S. in 2024, the following table illustrates the segment-wise distribution of exports along with the associated risks, emphasising the potential effects of the U.S. tariffs on Sri Lanka’s export sectors.
As observed, the apparel sector faces significantly higher risk due to its high tariff exposure. The following tables provide a comparative overview of tariffs imposed on Sri Lanka and other major apparel-exporting countries. While Sri Lanka, Bangladesh, and Vietnam incur similar tariff rates, it is important to note that differences in cost structures lead to varying profit margins across these countries. This is evident in the subsequent table, which shows that Sri Lankan apparel exporters operate with relatively lower margins compared to competitors such as Vietnam and Bangladesh. Although Sri Lanka can compete with countries like India, whose apparel industry has lower margins but faces higher tariffs of 25 percent, the tariff burden and margin disparities remain important factors in competitiveness. This increased cost will inevitably be passed on to consumers to maintain market share and will therefore lead to declining margins, further impacting the profitability of exporters. It is important to recognise that the apparel sector is not the only one affected by U.S. tariffs; the rubber sector is also impacted, making up about 13 percent of exports to the U.S. in 2024. This indicates that multiple export sectors, not just apparel, face significant challenges due to these tariff measures. Although apparel is more heavily impacted relative to other sectors because it currently faces a higher MFN rate than the rest of the export industries. Apparel exporters, now compelled to find ways to reduce costs, may implement measures that could affect the 350,000 individuals directly employed in Sri Lanka’s apparel industry.
Approximately ~60% of the value in apparel exports comes from imported materials used in manufacturing, with only ~40% representing domestic value addition. In contrast, other products such as rubber and fisheries have a higher domestic content, making them less vulnerable to adverse exchange rate impacts. Suppose a scenario where demand shifts away from Sri Lankan apparel exporters to other countries offering similar quality at lower prices, resulting in a 10% reduction in the total apparel export value. Given that ~60% of the export value comprises imported materials used in manufacturing, this decline would also reduce the import value accordingly. Ignoring other minor costs, this would translate to a $190 million decrease in export value and a $114 million reduction in import value, leading to a net decrease in foreign currency earnings of $76 million. This decline represents approximately ~6% of Sri Lanka’s net-current account surplus of ~$1.2 bn in 2024. The following table helps to give an overview of this.
Risk Assessment
Overall, this situation is expected to create short-term liquidity pressures due to declining foreign exchange inflows. In the medium term, there is a risk that export manufacturers, particularly in the apparel industry, may relocate their manufacturing operations to jurisdictions with lower tariffs and less impact from the Trump administration’s measures. As discussed, these developments will affect the national balance sheet, especially the current account, where exports accounted for a considerable share of total trade in 2024.
Main Insight
The increase from MFN-only tariffs to MFN plus an additional 20% reciprocal tariff within just four months marks a substantial change in the trade cost landscape for Sri Lankan exports to the U.S. Although the 20% tariff is lower than the initially proposed 30% in July, it still significantly raises costs for major export sectors and places Sri Lanka at a disadvantage compared to many competitors facing tariffs around 15%. If the industry and policymakers do not take proactive steps, these tariff changes might lead to a gradual decline in export revenues, reduced foreign currency liquidity, and a weakening of the country’s credit standing. The LRA has therefore placed a Cautionary Credit Watch on the National Balance Sheet and relevant sectors and will update their outlook based on emerging data related to order volumes and shifts in market share.
