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In a small garment factory on the outskirts of Kathmandu, rows of workers stitch together puffer jackets destined for European shops. For now, these coats arrive in London or Berlin at a competitive price, shielded by international trade provisions that grant poor nations a helping hand. Soon that protection will fall away.
Nepal is scheduled to graduate in late 2026 from its official status as a Least Developed Country (LDC), a milestone of hard-won progress that brings with it a suite of new economic perils. The nation’s success in meeting the United Nations’ criteria for graduation (based on income, human assets and economic vulnerability) is commendable. Yet the loss of the international support measures tied to that status will test its economy like little else in recent years.
The direct hit on Nepal’s broad macroeconomic picture appears mild. Modelling by the International Trade Centre projects a $59m reduction in annual exports by 2026, a contraction of less than 5%. Spread across the entire economy, this suggests a barely perceptible drag on GDP growth. The real story, however, is not one of aggregate figures but of concentrated pain. Nepal’s LDC graduation could hit certain industries and the thousands of workers, mostly women, who rely on them.
The primary shock will arrive through the external sector, as the preferential market access granted to LDCs is withdrawn or scaled back. Countries like Britain, Canada, Japan and members of the European Union offer tariff-free or reduced-tariff access for Nepali goods. Graduation means domestic exports must soon compete on a level playing field with those from industrial powerhouses like China and Vietnam. An apparel jacket that once entered Britain duty-free may suddenly face a 12% tariff, obliterating its margin. The problem is compounded by a tightening of “rules of origin”, the complex criteria defining a product’s economic nationality. Many Nepali garment firms import fabric from elsewhere for final assembly. Under stricter post-graduation rules, this may no longer qualify a coat as “Made in Nepal”, disqualifying it from preferential treatment altogether.
The sectors facing the steepest cliffs are those that have grown under the shelter of these preferences. The garment industry, though small with roughly 15,000 direct employees, is highly exposed. So too is the carpet sector, a larger employer linking some 1,350 firms and roughly 250,000 jobs. Synthetic textiles and some manufactured goods also feature prominently on the list of vulnerable exports. These are not abstract trade flows: they are paycheques for households and credit relationships for local banks. A projected loss of over 11,000 formal jobs in these sectors will ripple through the domestic economy, reducing demand for local inputs, from agricultural fibres to transport services. As women constitute around 70% of the garment workforce, the social impact will be disproportionately theirs to bear.
Concurrently, the flow of international aid and finance will shift. While core bilateral aid from partners like India and China is driven more by geopolitics than poverty status, and will likely continue, certain LDC-specific funds will dry up. Programmes such as the Enhanced Integrated Framework for trade aid and the Least Developed Countries Fund for climate adaptation will phase out. Access to the very softest loans from development banks may also narrow. The World Bank uses income categories to allocate resources, and Nepal’s graduation will probably nudge it from the International Development Association, its most concessional arm, towards the International Bank for Reconstruction and Development, which offers longer-term but less generous terms. The cost of capital for public infrastructure projects may thus creep upwards, squeezing fiscal space.
For all these hazards, graduation is not a sentence to stagnation. It is, rather, a forcible ejection from a sheltered harbour into the open seas of global competition. This brings undeniable opportunities, though they are not automatic. Shedding the LDC label can burnish Nepal’s sovereign image, signalling stability and progress to international investors. This could improve credit ratings and reduce risk premiums, making commercial borrowing cheaper for the government and private firms alike. The event creates a powerful political window to accelerate long-stalled structural reforms, such as improving the dismal state of domestic infrastructure and simplifying the cumbersome business climate. The imperative to diversify exports and markets becomes urgent, pushing the economy towards more sustainable foundations.
The central task for the government, therefore, is not to resist the inevitable but to manage the transition with surgical skill. The policy response must be sequenced and targeted. In the immediate term, diplomacy is paramount. Nepal must negotiate with major trade partners for extended transition periods, ideally a five- to seven-year phase-out of tariffs rather than an abrupt cutoff. Domestically, it should conduct a firm-level audit to identify which exporters will fail new rules-of-origin tests and support them to source more inputs locally. Temporary, conditional grants could help the most employment-intensive sectors stay afloat.
The medium-term agenda must focus on building a more resilient economy. This means moving beyond assembling imported fabrics to creating domestic textile clusters that can supply them, thus capturing more value and complying with stricter origin rules. It necessitates a vigorous push to diversify the export basket, promoting non-traditional sectors like information technology services and tourism, which are less reliant on trade preferences. Active labour-market policies are needed to retrain displaced garment and carpet workers, with special attention to female employees. Blended finance facilities can help firms upgrade machinery to meet the quality standards of more demanding, non-preferential markets.
In the long run, Nepal’s success will hinge on fundamentals that have little to do with international classifications. Reliable electricity, efficient logistics, a predictable regulatory environment and a better-educated workforce are the true bases of competitiveness. Graduation provides a compelling deadline to get these things right. The alternative, ie: a failure to adapt, would see the nation’s celebrated achievement become an anchor on its progress. The ascent from poverty is laudable, but the next stage of the climb, on unforgiving terrain without a safety rope, will be the true measure of the country’s economic maturity. ■