Aid politics in transition: USAID withdrawal and Nepal’s LDC graduation

USAid employees and supporters protested against the Trump Administration's sudden closure of USAid resulting in the canceling aid work, conflict prevention and foreign policy work around the world as well as potentially laying off thousands of employees. (Chip Somodevilla/Getty Images)

Nepal is at a crucial juncture as it prepares to graduate from the Least Developed Country (LDC) status in 2026. This transition coincides with the gradual withdrawal of the United States Agency for International Development (USAID), Nepal's largest donor since 1951. This dual transition signifies both progress and potential risks.

These changes have sparked discussions about Nepal's economic resilience, its global standing, and its ability to replace foreign aid with sustainable income. Recent data from late 2024 and early 2025 highlight various challenges Nepal faces on its path to self-reliance. Nepal's journey towards self-reliance is a test of its governance, international support, and strategic planning. The country must navigate these changes carefully to ensure a stable and prosperous future.

USAID’s retreat: Fiscal gaps, job market shock, and geopolitical rebalancing

USAID has significantly impacted Nepal, investing over $3.8 billion since 1951. Its programs have led to major improvements, such as a 50% reduction in maternal mortality rates between 2000 and 2020, and the reconstruction of 1,200 schools and 50 health facilities after the 2015 earthquake. However, in 2023-2024, USAID shifted its focus towards Ukraine and Indo-Pacific security, reducing its annual funding to Nepal to $85 million by December 2024, a 61% decrease from its peak of $220 million in 2020. This reduction has created a fiscal gap equal to 1.6% of Nepal's $48.2 billion GDP in 2024, severely affecting rural healthcare and climate adaptation programs, where USAID funded 30% of the infrastructure.

In January 2025, the Trump administration directed USAID to prioritize "America First" in its foreign aid, leading to a 90-day suspension of four USAID projects in Nepal. This suspension has disrupted ongoing initiatives in education and disaster resilience, raising concerns about the future of development programs that rely heavily on U.S. assistance. The reduction in aid is expected to have immediate impacts, particularly in the health sector, where USAID has been crucial in reducing maternal and child mortality rates. Without adequate alternative funding, progress in these areas could stall.

The aid cut has also sent shockwaves through Nepal’s job market, as USAID-funded programs employed thousands of Nepali professionals in health, education, and infrastructure. The abrupt downsizing of these initiatives has led to widespread layoffs, particularly in rural areas. The 2025 Labor Market Assessment by Nepal’s Ministry of Labor estimates that over 27,000 skilled and semi-skilled workers will lose employment by mid-2025 due to USAID’s retreat. NGOs, which relied heavily on USAID grants, have been forced to scale back operations, leading to a sharp contraction in the nonprofit sector and a surge in job competition.

The withdrawal of USAID also highlights the U.S.'s broader geopolitical strategy to counter China's growing influence in South Asia. Nepal, located between India and China, has become a contested area. While U.S. aid decreases, China's Belt and Road Initiative (BRI) presents both opportunities and challenges.

By early 2025, only $40 million of the pledged $500 million for BRI projects had been delivered, mainly funding the controversial Pokhara International Airport, which has a $215 million loan at a 4.2% interest rate—higher than rates from multilateral lenders. Meanwhile, India's "Neighborhood First" policy has focused on security cooperation, including a $200 million grant for post-2023 earthquake reconstruction, but progress on cross-border energy projects like the Pancheshwar Multipurpose Dam has stalled, delaying Nepal's potential for hydropower exports.

LDC graduation: Progress, job market shrinkage, and economic risks

Nepal’s graduation from LDC status, approved by the UN in 2021, reflects significant progress: GNI per capita reached $1,630 in 2024 (above the $1,222 threshold), literacy rates climbed to 79%, and undernourishment dropped to 9.2%. However, deep vulnerabilities remain. The World Bank’s 2024 Nepal Development Update warns that 14.3% of Nepal’s population (4.6 million people) still live below the poverty line, and remittances accounting for 24% of GDP fell by 9% in 2024 due to Gulf labor market restrictions.

LDC graduation will also strip Nepal of key trade privileges. Currently, the EU accounts for 36% ($1.35 billion) of Nepal’s $3.75 billion in exports, largely through duty-free access. After 2026, tariff hikes of 12–18% on garments will jeopardize $520 million in annual revenue. Nepal’s garment sector, which employs 670,000 workers, faces mass layoffs, exacerbating the ongoing job market crisis caused by USAID’s retreat.

Additionally, Nepal will lose access to concessional financing, which covered 21% of its $19.8 billion national budget in 2024. The UNDP’s 2025 Economic Vulnerability Report forecasts a 6.8–7.9% GDP contraction by 2030 unless structural reforms are implemented. This risk is heightened by the increasing frequency of climate disasters, with monsoon-related damages rising from $270 million in 2023 to $320 million in 2024.

Systemic challenges: Governance, debt, and climate pressures

Nepal’s ability to manage this transition is constrained by governance inefficiencies, rising debt, and environmental vulnerabilities. Tax revenue collection reached 21.5% of GDP in 2024, falling short of the 24.5% target due to persistent evasion and inefficiencies. Corruption remains a significant issue, draining $1.7 billion annually, according to the 2025 Infrastructure Corruption Index by the Centre for Investigative Journalism-Nepal. High-profile cases, including embezzlement in the $650 million Kathmandu-Terai Expressway and delays in the $135 million Melamchi Water Supply Project, highlight governance failures.

Vehicles are submerged near government office premises after a Melamchi drinking water supply pipeline bursts, causing severe flooding in Babarmahal, Kathmandu, Nepal, on February 12, 2025. (Sanjit Pariyar/NurPhoto via Getty Images)

Debt sustainability is another growing concern. External debt reached 43.2% of GDP in 2024, with BRI-related liabilities accounting for 17% of the total. Meanwhile, Nepal’s vulnerability to climate change is escalating. The 2024 monsoon floods displaced 28,000 families, causing $380 million in damages. The country ranked 70th in the 2024 Global Climate Risk Index, yet climate financing covered only 32% of adaptation needs, per the UNFCCC’s 2025 Climate Finance Review.

Pathways to resilience: Hydropower, digital reforms, and employment strategies

To counterbalance the loss of aid and trade privileges, Nepal’s government has launched the 2025 National Self-Reliance Strategy, targeting 8.2% annual GDP growth through hydropower exports, digital transformation, and job creation. Hydropower capacity reached 3,500 MW in 2024, with the 1,200 MW Budi Gandaki Dam slated for completion by 2029. Agreements signed in 2024 will facilitate energy exports to India and Bangladesh, generating new revenue streams.

Recognizing the urgent need for employment solutions, the government is expanding vocational training programs, particularly in renewable energy and IT. Digital tax platforms have helped formalize economic activities, boosting revenue by 24% in 2024. Public-private partnerships (PPPs) attracted $350 million in investment for infrastructure projects, such as the Gautam Buddha International Airport, which is expected to create thousands of new jobs.

International institutions are also adjusting their approach. The World Bank’s 2024–2028 Country Partnership Framework has allocated $1.3 billion for climate resilience and rural connectivity, while the Asian Development Bank (ADB) pledged $650 million for urban development. However, inefficiencies persist—only 48% of ADB-funded projects met their 2024 deadlines, and the $250 million Nepal-India Regional Trade and Transport Project faced delays due to land acquisition disputes.

Conclusion: Navigating a post-aid economy

Nepal’s transition from LDC status and traditional aid dependency presents both opportunities and risks. While graduation signals economic progress, USAID’s withdrawal—and the failure of alternative donors like China to fill the gap—exposes systemic fragility. The country now faces a dual challenge: mitigating the loss of foreign aid while addressing rising unemployment and trade disadvantages.

A “graduation-plus” framework, blending grants with technical assistance, is essential to cushion trade shocks. For Nepal, long-term success hinges on leveraging hydropower, digital innovation, and institutional reforms to foster a sustainable, job-generating economy.  

The coming years will test Nepal’s ability to transform these ambitions into reality, ensuring that progress is not undermined by rising inequality and economic displacement.