Impact of US reciprocal tariffs and strategic responses from affected nations

While the tariffs are intended to address trade imbalances, their impact on countries like Sri Lanka could be severe, particularly for key sectors such as textiles and rubber products

In a controversial move on 2 April 2025, President Donald Trump announced the imposition of reciprocal tariffs on imports from approximately 90 countries, sending shockwaves through the global trade landscape. These tariffs, which exceed a 10% across-the-board tax on all imports to the United States, are designed to address the US’s trade deficit with several major trading partners, including China and the European Union. Trump framed the announcement as “Liberation Day,” asserting that these tariffs were necessary to rectify the imbalance in trade. 

The principle behind these tariffs, referred to as “reciprocal,” involves imposing matching tariffs to those other countries place on US imports. In President Trump’s words, “They do it to us, and we do it to them.” Under this policy, Asian nations, in particular, are expected to bear the heaviest burden. Cambodia, for example, faces a tariff rate of 49%, Vietnam is subject to a 46% tax, and Sri Lanka faces a 44% levy. Additionally, China’s imports will be taxed at an overall rate exceeding 60%, factoring in both the reciprocal tariffs and previously announced duties. Despite the considerable disruption these measures could cause, some analysts suggest that these tariffs may be part of a broader negotiation strategy aimed at compelling foreign governments to agree to more favourable trade deals with the United States. 

Some economists mentioned that “The president loves creating a situation where other countries or individuals have to come and bargain with him. By setting out different tariff rates on a country-by-country basis, it creates a situation where every country then has to supplicate and beg and negotiate with the White House on an individual basis.” 

Potential impact on Sri Lanka 

Sri Lanka’s latest trade and export policy sets an ambitious target of achieving annual export revenue of $ 18.2 billion by 2025. The strategy involves increasing merchandise exports from $ 12.7 billion to $ 14 billion, and service exports from $ 3.5 billion to $ 4.2 billion. Key sectors driving this growth include apparel ($ 5.2 billion), tea ($ 1.4 billion), rubber ($ 1 billion), and gems and jewellery ($ 650 million). The ICT sector is expected to reach $ 1.7 billion by 2025, with an eye on $ 5 billion by 2030, supported by tax reductions. Emerging industries such as boat manufacturing ($ 200 million) and traditional exports like seafood ($ 300 million) and coconuts ($ 800 million) will contribute to this goal. However, recent reciprocal tax issues could pose a challenge to achieving this target, as the policy’s potential benefits might be drastically undermined by such reciprocal tax implications. 

The newly imposed tariffs are particularly concerning for Sri Lanka, which is a major exporter to the United States. As of 2024, total trade between the US and Sri Lanka amounted to approximately $ 3.4 billion, with Sri Lanka exporting around $ 3.0 billion in goods to the US. The sectors most at risk include textiles, rubber products, and other manufacturing industries that have grown steadily over the past two decades. These industries, which have benefited from Sri Lanka’s reputation for high-quality, low-cost, and efficient manufacturing, now face significant challenges. The 44% reciprocal tariff on Sri Lankan goods threatens to severely strain profit margins, reduce order volumes, reduced foreign exchange earnings, impact on banking industry, building up reserves, deterring investments, slowing GDP and potentially lead to job losses. 

It is reported that the apparel sector directly employs approximately 362,500 individuals and indirectly supports around 1.0 million jobs, highlighting the significance of the issue. If not addressed, this could lead to social unrest and have a cascading effect on other sectors. This would also making it difficult for Sri Lanka to meet its ambitious export target of $ 18 billion. With a 44% tariff, many US retailers may now shift to sourcing from countries like India or Mexico, which face lower duties. Even a 10% difference in costs can sway buyers in a highly price-sensitive industry. 

Additionally, with the relaxation of vehicle import restrictions and pent-up demand for other products and services, pressure on foreign exchange rates is expected to increase, potentially reaching levels between Rs. 305-310 by the third quarter. The Central Bank of Sri Lanka (CBSL) must ensure it maintains an adequate buffer to meet its IMF targets. Sri Lanka is likely to face significant difficulties in meeting its commitments to the IMF, as well as in the long-term restructuring and settlement of macro-linked bonds.

Strategic responses

To mitigate the impact of these tariffs, Sri Lanka must adopt a proactive and strategic approach to managing its trade relationship with the United States. Several potential courses of action are outlined below:

• High-level diplomatic engagement: Similar to the approach taken by Vietnam, which is actively negotiating with the US to remove tariffs, Sri Lanka could initiate discussions at the highest levels of Government. Direct dialogue with US leaders would help demonstrate Sri Lanka’s commitment to fair trade practices and could serve as the foundation for securing favourable concessions
• Negotiations with the IMF and trade partners: Sri Lanka could engage with international bodies such as the International Monetary Fund (IMF) to negotiate more favourable terms in light of the economic volatility caused by the new tariffs. Furthermore, collaborating with other affected nations could provide leverage in negotiating relief or exemptions from the tariffs.
• Attracting US investment: To counterbalance the negative effects of higher tariffs, Sri Lanka could offer incentives to US companies to establish manufacturing operations within the country. These incentives could include tax breaks, which would benefit both Sri Lanka’s economy and US businesses looking for cost-effective production options
•  Increasing imports from the US: As part of a broader strategy to counterbalance the tariffs, Sri Lanka could work to gradually increase its imports of US goods. Countries such as Vietnam have already begun similar strategies, including discussions with the US to purchase more American products, such as aircraft from Boeing. By aligning its import strategy with US interests, Sri Lanka may be able to ease the burden of reciprocal tariffs over time. Sri Lanka could explore renegotiating trade agreements with the US, particularly in sectors such as agriculture and energy. By offering to increase imports of US goods in these sectors, Sri Lanka may be able to strike deals that reduce or eliminate the new tariffs.
• Supporting export based manufacturers: As US companies may raise prices or demand lower prices from Sri Lankan exporters due to heightened tariffs, Sri Lanka’s Government should consider offering tax breaks and other concessions to domestic manufacturers. This support can include financial incentives, tax breaks, and subsidies to help businesses absorb the increased costs and maintain their competitiveness in the global market. This would help make local products more competitive in the US market, mitigating the impact of the tariffs on industries highly dependent on exports.
• Renegotiating contracts with US buyers: Sri Lankan exporters could renegotiate contracts with US buyers to share the cost burden. Exporters may offer slight discounts, while buyers accept reduced margins or pass on small price hikes to consumers. Open dialogue and strategic negotiations are essential to avoid losing valuable orders.
• Renegotiating with suppliers: This is an ideal situation to negotiate with suppliers by explaining the current challenges and the long-term impact. Buyers are also in a difficult position if they do not receive orders. To further reduce costs, Sri Lankan exporters should consider renegotiating terms with their material suppliers. By securing better prices and terms, they can help offset the additional costs imposed by the tariffs.
• Diversification: A vital strategy for Sri Lanka would be accelerating market diversification. While efforts to expand exports to the EU, Canada, Japan, India, China, and emerging markets in Latin America are already underway, the tariff situation underscores the importance of reducing reliance on the US market. Other regions, such as Asia, the Middle East, and Africa, also offer promising opportunities
• Upgrading the value chain: Competing solely on low cost is no longer sufficient. Sri Lanka’s manufacturers are encouraged to move into higher-end, value-added products, investing in design, branding, and sustainability standards. Companies already using advanced technology to produce complex items like sportswear are well-positioned to capitalise on this trend
• Explore strategic investments: Sri Lanka could invite large manufacturing companies from countries like China and India to set up operations within Sri Lanka, extending attractive concessions. Local high-end corporate companies could also consider joint ventures with countries affected by the tariffs to enhance their competitiveness. Vietnam has emerged as one of the largest beneficiaries of the trade war between China and USA as some businesses are shifting their supply chains away from China in order to avoid tariffs. Some importers had been illegally re-packing goods from China in “Made in Vietnam” packaging and then applying for a Vietnamese certificate of origin with which to export to the United States, Europe and Japan. This was uncovered by US. Sri Lanka should explore very legitimate way to set up companies in free zones and legal transshipment of goods. 
• Explore new markets and market penetration: Sri Lanka should explore new markets, such as the Middle East, Australia, and Japan, for exporting products like apparel and rubber goods. Furthermore, Sri Lanka could collaborate with Chinese companies to establish joint ventures, enabling local manufacturing and rebranding efforts to increase exports to other countries.
• Filing for exclusions: Companies could apply for tariff exclusions if they could demonstrate that certain products are unavailable from US manufacturers or are critical to their operations.
• Collaboration: Sri Lanka can coordinate with other affected countries, such as Bangladesh, Vietnam, and Cambodia, to raise concerns at platforms like the WTO. A united front will add weight to their advocacy. Support from trade partners, including the EU or UK, can help push for fairer treatment from the US
• Industry unity: Organisations like JAAFSL, BOI and other trade groups should lobby with the government, coordinate data, and engage with US counterparts to oppose the tariffs. Banks should work closely with exporters to support the industry in a more proactive manner.
• Prudent management of foreign exchange reserves: The Government and CBSL should be very mindful and vigilant in safeguarding Sri Lanka’s reserve position, instead of allowing it to shrink. The next 1-2 years will be crucial for foreign exchange, and we need sufficient reserves to withstand any contingencies. The Government should provide incentives and subsidies to import substitutes and local manufacturers. More importantly, managing the fuel bill, restructuring SOEs, and eliminating bleeding assets as soon as possible are essential steps to stabilise the economy.
• Political unity: Consider this as a national crisis and temporarily suspend political divisions. It is essential to unite all political parties and form a team to engage with international counterparts through effective lobbying efforts.

Conclusion

The imposition of reciprocal tariffs by President Trump represents a significant shift in global trade dynamics. While the tariffs are intended to address trade imbalances, their impact on countries like Sri Lanka could be severe, particularly for key sectors such as textiles and rubber products. To mitigate the economic fallout, Sri Lanka must engage in proactive diplomacy, renegotiate trade terms, and consider strategic investments in manufacturing and import expansion. By adopting these strategies, Sri Lanka can navigate the challenges posed by these tariffs and position itself to benefit from the evolving global trade landscape. Although the path ahead may not be smooth, Sri Lanka has a resilient spirit and a history of overcoming setbacks.

(The writer holds a Phd (MSU, Malaysia), MBA (University of Wales), FIB (SL), MCIM (UK), PgDip (ICASL), FCPM, and is a senior banker and researcher.)