Sri Lanka is facing renewed external risks following Moody’s downgrade of the United States’ sovereign credit rating from Aaa to Aa1 on 16 May.

According to an analysis released by Lanka Rating Agency (LRA), the shift underscores rising fiscal risks in the US and brings direct implications for Sri Lanka’s reserve adequacy, rupee stability, and export resilience.

With Sri Lanka holding a significant portion of its foreign reserves in US Treasuries, the recent rise in US five-year Treasury yields, from 3.86% to 4.17%, is expected to reduce the mark-to-market value of these assets.

This weakens the country’s ability to defend its currency or service external debt obligations, particularly as foreign reserves stood at $ 6.326 billion at the end of March.

LRA notes that Sri Lanka’s exposure to US debt leaves it vulnerable to further global financial volatility, especially if large Asian economies begin offloading their US Treasury holdings. Such a shift, even if sentiment-driven rather than monetary policy-driven, could significantly erode the value of foreign reserves held by emerging economies like Sri Lanka.

In addition to reserve-related risks, the analysis outlines broader macroeconomic spillovers. Elevated global borrowing costs, stemming from tighter US fiscal conditions, are likely to place further strain on Sri Lanka’s export-oriented industries, particularly apparel. Profit margins in the sector could be compressed due to higher financing costs and limited ability to raise prices in risk-averse global markets, potentially affecting growth momentum and export competitiveness.

Rising US borrowing costs also raise the landed cost of imports into Sri Lanka, which could have knock-on effects for local exporters who rely on imported US inputs to manufacture re-exportable goods. LRA stresses that these pressures heighten the need for targeted policy support, especially to address working capital constraints in export-linked sectors.

The agency further observes that the US downgrade highlights a growing mismatch between short-term debt obligations and the ability of the US government to manage its fiscal position. With nearly $ 7.5 trillion of US debt, around 26.75% of the total, maturing in 2025 alone, Moody’s has expressed concerns over liquidity risks, debt-servicing pressures, and the long-term debt trajectory, projected to reach 134% of GDP by 2035.