Executive Summary

Growth in South Asia is on track to exceed earlier expectations and reach 6.6 percent in 2025, but is expected to slow to 5.8 percent in 2026. While this short-term outlook is subject to downside risks, over the longer term, artificial intelligence (AI) could promote growth by boosting productivity, especially among those 15 percent of South Asian workers who are in jobs where AI strongly complements human labor.

This growth dividend could be amplified by trade reforms. Carefully sequenced tariff cuts, especially in conjunction with broader free trade agreements, would encourage private investment and job creation in trade-related activities, which disproportionately employ South Asia’s younger and higher-skilled workers and have accounted for most of South Asia's employment growth over the past decade. This could particularly benefit manufacturing, where elevated tariffs on production inputs currently diminish competitiveness.

South Asia’s governments can support the adjustment of labor markets to new technologies and trade opportunities by proactively removing obstacles to workers' reallocation to new firms, occupations, and locations. Simultaneously, they could protect vulnerable workers during this period of change by streamlining and strengthening safety nets.

Chapter 1: Progress and Peril

Growth in South Asia is on track to exceed earlier expectations and reach 6.6 percent in 2025, but is expected to slow to 5.8 percent in 2026. The region is making progress toward addressing vulnerabilities, but risks remain. South Asian economies would be affected by spillovers from a persistent global economic slowdown and export market dislocations, labor market disruptions from artificial intelligence (AI), social unrest, or geopolitical tensions.

Over the longer term, new technologies such as AI and more open trade regimes could catalyze renewed growth momentum by encouraging private investment and productivity. Policymakers can foster both growth and job creation by enhancing the flexibility of their economies, improving connectivity, encouraging upskilling of the workforce, and providing an appropriate safety net.

In addition to regional growth prospects, this edition examines in depth the labor market impact of two major economic shifts: the growing adoption of AI and reforms to increase South Asia's trade openness.

Chapter 2: Artificial Intelligence, Real Impact

Labor Market Implications of AI Adoption in South Asia. South Asia’s workforce is only moderately exposed to changes caused by the adoption of AI owing to the predominance of low-skill, agricultural, and manual jobs, which tend to be least likely to be replaced by AI. However, demand for AI skills has grown rapidly, and jobs requiring these skills command a wage premium of nearly 30 percent relative to other white-collar jobs.

Productivity gains could be substantial for the 15 percent of South Asian workers who are in jobs with strong complementarities with AI and who tend to be highly educated, experienced workers. Only 7 percent of South Asia’s jobs are highly exposed to AI without being complementary to its use, and are thus at risk of automation—well below the 15 percent exposure in other emerging markets. Moderately educated, young workers are the most vulnerable to job displacement. The introduction of Generative AI has already reduced monthly job listings by around 20 percent for the most exposed and most substitutable white-collar occupations.

The largest relative job losses have occurred in the business services and information technology sectors, and among upper-middle-skilled and entry-level workers. South Asia could strengthen the foundations for maximizing the benefits of AI by raising the share of skilled workers and ensuring reliable electricity, as well as consistent and fast internet access. Improving infrastructure and facilitating labor mobility can help maximize AI's benefits while minimizing labor market disruptions.

Chapter 3: Trading Protection for Jobs

Carefully sequenced trade reforms could encourage private investment and create jobs for South Asia’s growing working-age population. Historically, both in South Asia and around the world, major trade reforms have typically coincided with periods of significantly faster aggregate employment and output growth. However, higher-skilled and younger workers, and those in manufacturing, have benefited more than others.

These patterns would likely be amplified in South Asia if governments decided to lower tariffs now. The one-third of South Asian workers in sectors with the lowest tariffs (mostly services) have accounted for more than three-quarters of aggregate employment growth. Ambitious tariff cuts in South Asia, especially in conjunction with broader free trade agreements, would particularly benefit younger and higher-skilled workers and those in manufacturing, who tend to work in trade-oriented sectors that are currently held back by elevated tariffs on inputs.

Removing obstacles to a reallocation of workers across firms, sectors, and locations would help unlock gains for more workers. Governments can support this process through efforts such as improving connectivity, worker skilling, better job matching, the removal of obstacles to firms’ growth, and an appropriate social safety net. Past experience suggests that the revenue implications of tariff cuts are manageable.

Sequencing Trade and Labor Reforms

Ambitious trade reforms in South Asia could deliver substantial gains in exports and incomes, partly as a result of workers reallocating toward more productive firms, sectors, and locations. High switching costs for workers could diminish some of the potential gains. Even modest improvements in labor mobility could substantially increase the income gains from trade reform.

No Tariffs, No Problem: Managing the Revenue Impact of Tariff Cuts

Most South Asian countries derive 4-19 percent of their government revenues, or 0.7-3.7 percent of GDP, from trade. Past episodes of major tariff cuts were, on average, accompanied by a small decline in trade revenue of less than 0.1 percentage point of GDP. Total tax revenue-to-GDP ratios stayed broadly flat during these reforms, as trade tax revenue losses were offset by gains in other tax revenues, especially from consumption taxes. These tariff reductions rarely involved tax rate increases and typically relied on base broadening or better tax administration.