Sri Lanka poised for production surge as trade diversion reshapes Asia’s supply chains - IMF
The latest Regional Economic Outlook (REO) for Asia and Pacific, launched by the International Monetary Fund (IMF) last Friday, highlights a profound and ongoing reconfiguration of global value chains that offer significant, though challenging, opportunities for economies like Sri Lanka.
The report confirms that recent global trade tensions and sharply higher effective US tariffs have spurred a tariff-induced trade diversion across the region, as companies seek to circumvent new trade barriers.
While the full impact is still unfolding, IMF’s analysis of the 2018–2019 US-China trade tensions reveals a consistent pattern: production has relocated from highly taxed source countries to other economies in the region with favourable preconditions.
This process is evidenced by a higher growth in value-added exports to the US and a simultaneous increase in intermediate goods imports from China in tariff-targeted sectors across several Asian nations. Crucially, this economic restructuring involves the relocation of factors of production and investment, which amplifies output gains by reallocating capital across countries and boosting aggregate productivity.
This shift, in turn, facilitates higher domestic production and a larger capital stock in the targeted host economies. For Sri Lanka, which the report identifies as facing severe internal socio-political pressures, including high youth unemployment, successfully attracting these shifting supply chains is vital for safeguarding resilient and sustainable growth.
The IMF’s research underscores that maximising these gains requires proactive policy focused on enhancing competitiveness, lowering non-tariff barriers, and pursuing deeper regional trade and financial integration.
The October 2025 IMF Regional Economic Outlook: Asia and Pacific titled “Navigating Trade Headwinds and Rebalancing Growth”, projects a general moderation of growth following a resilient performance in the first half of the year.
Regional economies posted stronger-than-expected growth in early 2025, bolstered by strong exports (partially frontloaded in anticipation of higher tariffs) and a buoyant AI-driven technology cycle. Despite this resilience, Asia’s GDP growth is projected to moderate from 4.6 percent in 2024 to 4.5 percent in 2025, and further to 4.1 percent in 2026, due to the mounting negative effects of higher US tariffs and long-term headwinds to potential growth.
The overall balance of risks remains tilted to the downside, with further escalation of trade tensions and policy uncertainty being a key concern. Domestically, subdued productivity growth, soft domestic demand, and social tensions pose additional challenges.
The IMF’s main policy thrust is that Asian policymakers must focus on structural reforms to make growth resilient and sustainable by boosting consumption and reinvigorating productivity growth. Key policy recommendations include strengthening the efficiency of financial intermediation, mitigating the impact of population aging, and pursuing greater intraregional trade and financial integration to enhance resilience.
