The Federal Budget to be delivered tomorrow is unlikely to provide steppingstones towards a less inflationary, more productive, fairer and more prosperous Australia. Hopefully it will not push backwards achieving those objectives but being a pre-election Budget, the risk is that it may. Instead of making a start on the objectives for better Australian economic performance it is more likely that the Budget tomorrow will add to the problems of too much government spending, rising structural budget deficit, band aids temporarily reducing inflation, squandering government investment spending in key electorates rather than in places that can ramp up productivity and making no attempt to reform the inequities and inefficiencies in the tax system.
Instead, the focus of the Budget tomorrow will be to provide temporary relief to the high and still rising cost of living because that is what polling indicates is the main concern in the approaching Federal election. Various initiatives have been announced or have occurred already – extending the electricity rebates another 6 months beyond their end-June 2025 end date and capping prescription medicine costs and changes to childcare costs.
To be fair, these cost-of-living relief measures have brought down inflation below 3% as measured by the headline CPI and may keep it below 3% through 2025, but at a cost of a rebound in the inflation rate in 2026 when their temporary impact on the annual inflation rate passes. Also, the rebound in inflation may have an extended life given high real growth (5%+ y-o-y) in government spending adding to demand in economy and real wage growth (fostered by the government to help address the high cost of living) but without any requirement for higher productivity that would prevent higher wages flowing to higher inflation.
Apart from cost-of-living relief measures, another focus of the Budget will be government investment spending projects. These can help to lift productivity if targeted properly. But the spending priority is more likely to be electorates that the government needs to hold or win the approaching election.
Between cost-of-living relief measures, investment spending measures and additional spending on housing, plus other increased spending, including on defence announced since last year’s Budget it is likely that Treasury’s forecast Budget Deficit (Underlying Cash Position) for the coming financial year, 2025-26 will grow to around $A55 billion, up from $A42.8 billion deficit forecast in the Budget last year and the revised forecast of $46.9 billion in the mid-year Economic and Financial Outlook released just 3 months ago in December.
That forecast for the 2025-26 Budget Deficit is up from a likely Budget Deficit in 2024-25, the current financial year, of around $A27 billion and a Budget Surplus of $A15.8 billion in 2023-24. Some of this substantial move from surplus to deficit, a swing of more than $A70 billion between 2023-24 and our forecast for 2025-26, is down to the economy not growing as strongly as forecast earlier. But the government has also had mostly better-than-forecast tax revenue growth from a persistently stronger-than-forecast labour market.
What the budget figures show is no real attempt to restrain government spending overall, or any attempt to raise more tax to cover additional spending. The government has been adding to demand in the economy and continues to do so. That will serve to keep inflation higher over the next few years, even though cost-of-living relief measures mask the sticky inflation rate in the immediate future.
If the Government is to continue lifting spending as it seems likely to do in the Budget tomorrow, there needs to be the glimmer of a plan of how additional spending can be funded by raising additional taxes.
Ideally, the tax system needs substantial reform making it both more efficient and fairer. The balance between tax raised by the GST and income tax needs to be reviewed. The concessions to income tax need a complete overhaul, in particular the way that savings and borrowings are taxed. Of course, it is unreasonable to expect this to happen in the context of one Budget, especially a pre-election Budget, but the promise of tax reform in the next parliamentary term would at least be a start.
We do not see the Budget tomorrow contributing towards a more productive and less inflation prone Australian economy. Instead, a raft of spending initiatives without covering revenue raising initiatives may make achieving those objectives harder. As a result, the RBA will be left to deal with slow progress reducing inflation. It means that interest rates will not fall as far as they might otherwise do in the near term and will need to stay higher on average over the longer term.