Sri Lanka has struggled to revive its stagnating export sector over the past two decades. The country’s exports as a percentage of Gross Domestic Product (GDP) steadily declined from 33% in 2000 to 18% in 2022. The absolute value of exports has been virtually stagnant over the past decade, recording an abysmally low growth rate of less than 2%.
The proposed network of Free Trade Agreements (FTAs) with fast-growing Asian markets – China, India, Thailand, Malaysia, Indonesia, and Bangladesh – is expected to boost exports and reduce the country’s overreliance on Western markets. The FTA with Thailand, Sri Lanka’s fourth bilateral trade agreement, was signed on 3 February. This agreement is expected to help increase merchandise exports from Sri Lanka to Thailand by reducing the tariff barriers imposed by the Government of Thailand.
However, analysis of trade data alongside tariff concessions Sri Lanka has received under the agreement reveals that the FTA has limited potential to boost exports to Thailand for two reasons. First, despite the FTA, Sri Lanka’s key exports will continue to face high tariff barriers in Thailand for the next 10-15 years. Second, Sri Lanka hardly produces and exports products that face no tariff barriers (i.e. enjoy duty-free access) and are among the leading imported items in Thailand.
These findings indicate that the reason for Sri Lanka’s failure to increase exports to Southeast Asian countries such as Thailand is not a lack of duty-free market access but a lack of products in demand in these markets for which the country already had duty-free access. Hence, to succeed, Sri Lanka must look beyond FTAs and focus on attracting investments to diversify its export product basket. Reducing barriers at home that stifle trade and investment is critical to attracting such investments.
Limited duty-free access stifles growth of current key exports
Not all products will get duty-free access immediately after the conclusion of the FTA with Thailand. The tariff or the import duty will be phased out over a period of time. Some products get duty-free access after five years, some after 10 years, and others after 16. Some products do not get any duty-free access at all under the agreement.
Apparel is Sri Lanka’s key export product, accounting for over 40% of the country’s exports. Thailand’s average tariff on imported apparel is as high as 29%. The analysis of duty concessions Sri Lankan apparel has received under the FTA shows that none of the apparel products received duty concessions in the first year.
Over 80% of apparel products must wait 15 years to receive duty concessions. Even then, a significant number of products (39%) do not get duty-free access but only preferential access, i.e. a percentage reduction in duty from the applied rate. Nine percent of the apparel products that contribute to up to 30% of the total apparel export value of Sri Lanka are included in the negative list by Thailand, meaning that none of them get any duty concessions under the agreement (refer to Exhibit 1).
Sri Lanka’s second largest export to the world is tea, accounting for 10% of the country’s total export value. The quantity of tea Sri Lanka can export to Thailand free of duty is subject to a quota of 625 tonnes as per the Tariff Rate Quota (TRQ) bound by Thailand to the World Trade Organization (WTO). (To give some context, Sri Lanka exported 247,115 tonnes of tea in 2022.) Anything outside that quantity is subject to the standard import duty of up to 60%.
Limited production stifles growth of exports with duty-free access
Fuel is one of Thailand’s largest imports. Excluding fuel, even before signing the FTA, Sri Lanka had duty-free access to 3,463 (at HS 8-digit) product categories, representing almost 50% of Thailand’s total imports from the world valued at $ 100 billion. (Electronic machinery, equipment, parts, and other machinery and mechanical appliances account for the bulk of these imports.)
However, these products account for approximately 8% of Sri Lanka’s exports to the world, and Thailand is not a key export destination for the products at present despite Sri Lanka having duty-free access. In contrast to Sri Lanka, these products account for approximately 60% of Malaysia’s exports to the world and 30% of Vietnam’s exports. Malaysia and Vietnam are among the top 10 sources of imports to Thailand, and these products are the leading exports of both these countries to Thailand.
Other developing Asian countries that have converted market access to Thailand to market success appear to have done so by being suppliers of key products in high demand in the country. For example, the largest imports into Thailand are electrical machinery, equipment, and parts. The vibrant trade in this product category between Thailand, Malaysia, and Vietnam results from their successful integration into the supply chain of key manufacturers of these products worldwide.
Products designed for the developed West are not the best for the developing East
A key lesson Sri Lanka can learn from Vietnam is that products designed for Western markets have limited potential to expand in developing Asia. Vietnam is the world’s third-largest apparel exporter and the second-largest footwear exporter.
Apparel and footwear are among the top five exports of Vietnam to its key developed Western markets – the US, the Netherlands, and Germany. However, they are not among the top five exports of Vietnam to its key developing Asian markets – China, India, and Thailand. The key exports to these markets are electrical machinery, equipment, and parts, accounting for 52%, 49%, and 32% of exports to China, India, and Thailand, respectively.
Sri Lanka’s current basket of products caters mainly to Western developed country markets in North America and Europe. Diversification of exports requires Sri Lanka to focus on attracting export-oriented investments. The flow of such investments can be encouraged only by dismantling barriers the Sri Lankan Government has imposed that increase the cost of doing business in Sri Lanka and trading across borders.
In this respect, Sri Lanka can learn from its new FTA partner. According to the Fraser Institute, Thailand ranks 80th in terms of freedom to trade internationally, significantly ahead of Sri Lanka, which ranks at 156. Thailand ranks 21st in the World Bank’s Ease of Doing Business Index, while Sri Lanka is placed 99th. Thailand has implemented 100% of trade facilitation measures in the WTO Trade Facilitation Agreement. In contrast, Sri Lanka has implemented only 34.9%.
(Abeysinghe is a Research Director and Arangala is a Lead Economist at Verité Research, a think tank based in Colombo)
Note: Thailand’s tariff schedule features products at an HS 8-digit level. As these products can only be matched to Sri Lanka’s total exports at the HS 6-digit level, the authors had to make certain assumptions to match the duty concessions at the HS 8-digit level to Sri Lanka’s exports at the HS 6-digit level