Agricultural Subsidies and Global Trade Wars: How Sri Lanka Balances Poverty Alleviation and International Relations

"Agricultural is the most healthful most useful and most noble employment of man"

-George Washington-

Agriculture has been at the heart of Sri Lanka's economy for centuries. It remains a crucial sector, not just economically but socially, as it supports a large portion of the population, especially in rural areas. Over time, the Sri Lankan government has implemented a range of agricultural subsidies aimed at supporting farmers, improving food security, and alleviating poverty. However, as the country becomes more intertwined with global trade networks, these subsidies have become a contentious issue, both domestically and internationally. On one hand, they are seen as necessary to support vulnerable populations, but on the other, they often attract scrutiny from international trade partners and institutions like the World Trade Organization (WTO), raising concerns about market distortions and trade conflicts. The Importance of Agricultural Subsidies in Sri Lanka Agricultural subsidies in Sri Lanka have historically focused on key inputs such as fertilizers, seeds, and irrigation resources.

According to the Central Bank of Sri Lanka, the agriculture sector employed approximately 27% of the workforce in 2019, contributing around 7.4% of the Gross Domestic Product (GDP). Given that around 30% of the population depends on agriculture for their livelihoods, the government has consistently allocated subsidies to improve productivity and ensure food security.

One of the most notable forms of subsidies has been in fertilizer. The government has long subsidized fertilizer costs to support paddy farmers and reduce the cost of rice production, which is the staple food for the majority of the population. By 2019, the annual cost of fertilizer subsidies had reached nearly LKR 50 billion (approximately USD 270 million), according to government figures. This policy has helped stabilize food prices, but it has also placed a significant burden on the national budget, especially amid the growing economic challenges in the country. The subsidies are seen as essential in boosting agricultural output, especially for smallholder farmers who often lack access to credit or advanced technologies. For example, rice production reached 3.8 million metric tons in 2019, thanks in part to the government's continued support. However, despite these gains, agricultural productivity in Sri Lanka remains low compared to regional competitors, with yields for key crops like rice, tea, and rubber lagging behind countries like India, Thailand, and Vietnam. And most crops, like rice, are not globally competing products as well.?

The Dilemma: Domestic Welfare vs. International Relations

While subsidies are essential for sustaining rural livelihoods, they also present a significant challenge when it comes to global trade relations.

Agricultural subsidies, particularly those aimed at inputs like fertilizers and fuel, can distort the market by lowering production costs and making it harder for foreign competitors to penetrate domestic markets. This distortion can trigger disputes with international trade partners and create tensions in global trade organizations such as the WTO.

For instance, Sri Lanka's agricultural subsidies have come under scrutiny as part of its trade agreements with the European Union (EU). Under the EU’s Generalized Scheme of Preferences Plus (GSP+), Sri Lanka enjoys preferential access to European markets for a variety of goods, including agricultural products like tea, rubber, and fish. In return, Sri Lanka must comply with international trade standards and regulations. Any sign that Sri Lanka is engaging in practices that distort trade, such as subsidizing certain sectors, could jeopardize its GSP+ status. This is particularly concerning for a country that exported goods worth EUR 2.3 billion to the EU in 2019, making the EU its second-largest trading partner after the United States.

In 2019, Sri Lanka exported approximately 140,000 metric tons of tea, earning the country USD 1.3 billion in revenue. Tea is one of Sri Lanka's most significant exports, but even in this sector, subsidies in the form of fertilizer support and price guarantees have raised concerns about compliance with global trade norms. Countries like Kenya and India, both major competitors in the global tea market, have questioned whether Sri Lanka's tea subsidies give it an unfair advantage, raising the possibility of trade disputes. Anyhow, we are now 4th in the list of tea exporters in the world, and this shows that even though we gave subsidies to tea, those subsidies were not boosting output; hence, we need to ask whether it is worth it.

Impact on Global Trade Relations and Trade Wars

The agricultural sector is not just a domestic issue for Sri Lanka—it has significant geopolitical implications as well. Global trade relations are increasingly influenced by the policies countries implement at home. Agricultural subsidies are seen by many trading partners as protectionist measures that distort fair competition. As Sri Lanka expands its trade partnerships with countries like China, India, and the EU, maintaining agricultural subsidies could lead to friction.

?One notable example is Sri Lanka's relationship with India. In 2019, India was Sri Lanka's largest trading partner, with bilateral trade totaling approximately USD 5.3 billion. However, India has often raised concerns about Sri Lanka's agricultural policies, particularly in the areas of rice and fisheries, where subsidies are seen as artificially lowering prices. India, which also subsidizes its agricultural sector, has found itself in a complex relationship with Sri Lanka, where both countries accuse each other of market distortions that affect trade in key commodities.

Trade wars can escalate when countries perceive that their interests are being undermined by subsidies in other nations. In recent years, global trade tensions have risen, particularly between the United States and China. Although Sri Lanka is a small player in this larger geopolitical struggle, its subsidies could attract attention from powerful countries if they are perceived as undermining free trade principles. This is particularly relevant given Sri Lanka's increasing reliance on Chinese investments through initiatives like the Belt and Road Initiative (BRI).

China, for its part, has invested heavily in Sri Lanka’s infrastructure, including the controversial Hambantota Port project. While these investments have provided much-needed capital for the country, they have also increased Sri Lanka's economic dependence on China. If agricultural subsidies were seen as unfairly benefiting Chinese-backed projects or exports, it could lead to tensions not just with Western countries but also with regional players like India and Japan, who are concerned about China's growing influence in the Indian Ocean region.

Balancing Domestic Needs with Global Obligations

The challenge for Sri Lanka lies in balancing its domestic agricultural needs with its global obligations as a member of the international community. The country has made significant progress in improving food security and reducing rural poverty through subsidies, but these policies come with risks. The fiscal burden of subsidies has already strained the government's budget, particularly during the COVID-19 pandemic and the subsequent economic crisis. As of 2021, Sri Lanka’s external debt had ballooned to over USD 51 billion, and now outstanding debt is more than 109 billion USD with the devalued lkr and pending interest rates, with debt servicing costs taking up more than half of the government’s revenue. This puts pressure on the government to reduce expenditure, including subsidies.

One potential solution is to gradually phase out broad subsidies and replace them with more targeted forms of support. Instead of subsidizing inputs like fertilizers, the government could invest in modernizing the agricultural sector through technology and infrastructure improvements. Or else, as I believe the government should give land ownership to farmers and introduce the private sector to the agricultural business, plus the Sri Lankan government needs to puch FDI related to agriculture more effectively. Anyhow, if the government wants to do the subsidies, then these examples can be taken as sufficient measures; providing farmers with access to high-quality seeds, advanced irrigation systems, and training on sustainable farming practices could help improve productivity without distorting the market.

Additionally, Sri Lanka could work with international trade partners and organizations like the WTO to ensure that its agricultural policies comply with global trade rules. By negotiating exemptions or special treatment for its subsidies under trade agreements, Sri Lanka can continue to support its rural population while avoiding trade disputes. For instance, India has successfully negotiated special exemptions for its agricultural subsidies within the WTO framework, citing the need to protect food security and smallholder farmers.

Sri Lanka’s agricultural subsidies are a double-edged sword. On one hand, they are essential for supporting the rural population and ensuring food security, especially in a country where agriculture plays a significant role in the economy Yet we need to ask the question: Did it work? According to the World Bank 2023, 30% of the Sri Lankan population is in extreme poverty. On the other hand, these subsidies pose significant challenges in the international arena, potentially leading to trade disputes and tensions with key partners.

As Sri Lanka navigates its economic recovery and deepens its engagement with global markets, finding a balance between supporting domestic agriculture and complying with international trade rules will be crucial. The country must seek ways to modernize its agricultural sector, reduce dependency on subsidies, and strengthen its global trade relationships to ensure long-term stability and growth.

In my second article, I'll try to discuss how to resolve the agricultural subsidies dilemma.?