Federal Budget 2024-25: Discipline discarded as business left searching for reform and restraint

Without structural repair and policy reform, the Budget does little to push forward productivity growth.

From the Chief Economist

We said the 2024-25 Federal Budget needed to do three things: not add to spending, unless offsetting it elsewhere; change existing policy to lower spending and find new revenue that will persist over time to close the structural balance; and put in place policies to assist the private sector to maximise productivity growth.

Unfortunately, we were left disappointed on all three fronts.

With billions being spilled into the economy from 1 July, and without offsetting new spending with cuts elsewhere, the Budget has thwarted the task of tightening the structural deficit.

It also undermines the Government’s inflation forecast – which was lowered below the Reserve Bank’s forecast and assumed to drop into the 2-3 per cent target band by the end of this year.

We are concerned the Budget doesn’t adequately account for the second-round impacts of the household assistance on spending. When combined with the personal income tax cuts, and cost-of-living measures currently being rolled out by state governments, we see a renewed threat to the core inflation.

Significant policy loosening quickly turns the estimated $9.3 billion surplus into a projected $28.3 billion deficit in 2024-25, as increases in spending are not matched to new receipts. The situation gets worse in 2025-26 as the cash deficit grows to $42.8 billion.

This is accompanied by a deterioration of the net debt projections, which rise from 18.6 per cent of GDP to 21.9 per cent of GDP by 2027-28.

Interest payments are expected to increase from 0.5 per cent to 0.8 per cent of GDP – and are in fact one of the fastest growing categories of spending, representing lost funds for other causes.

The structural budget deficit position is lower compared to the last projections from the Mid-Year Economic and Fiscal Outlook (MYEFO). While this is subject to many assumptions, it is the best indication we have about the sustainability of fiscal settings. It suggests the changes to policy in the current budget actually increase our vulnerability to future shocks.

Although no significant policy reforms were expected, it does not take away from our disappointment in the lack of reform measures in this Budget, especially given Australia’s flailing productivity growth.

The changes put in place for business were insignificant compared to the spending on the household sector, with little to promote substantial ongoing reform to power up productivity.

On the upside, policy commitments that invested in workforce gaps were encouraging, including 20,000 additional fee-free TAFE and VET places to train construction workers. Measures to progress the Universities Accord were also welcome. These included small payments to students undertaking placements in teaching, nursing and social work, and a measure to get students university-ready.

On tax, incentives are mainly aimed at the resource-rich states of Western Australia and Queensland, with tax credits for Hydrogen Energy and Critical Minerals and, more broadly, an extension of the instant asset write-off for small businesses. The ATO received funding to pursue tax compliance activities – one of the few revenue-raising measures in the budget.

But these measures fall well short of the type of incentives we need to promote economy-wide, productivity-enhancing investments, or to help make Australia more internationally competitive – especially given our globally high corporate tax rate of 30 per cent.

With an election less than a year away, the Government failed to use its Budget narrative as a starting point to convince voters why a more ambitious reform agenda is needed in its second term.

Cash balance estimates deteriorate from 2024-25

An underlying cash balance surplus of $9.3 billion is estimated for 2023-24, which is a significant positive turnaround from the $1.1 billion deficit predicted in the MYEFO.

Together with the 2022-23 surplus of $22.0 billion, these are the first twin surpluses since before the Global Financial Crisis. The turnaround was driven mainly by the stronger than expected labour market. Conservative commodity price forecasts, leading to and higher company taxes also helped. But this is where the positive news ends.

The budget then dives back into successive deficits – starting with a $28.3 billion deficit in 2024-25 – as economic factors are assumed to be less of a positive driver, while spending builds across the forward estimates.

More worrying, the deficits are forecast to be higher across the forecast period compared to the MYEFO, rising by a total $24.4 billion from 2024-25 to 2026-27.

Debt continues to rise, failing to peak over the forecast period

Gross debt is projected to reach $934 billion or 33.9 per cent of GDP in 2024-25, relatively unchanged from the MYEFO. Gross debt fails to peak in the forward estimates reaching over $1.1 trillion or 34.9 per cent of GDP by 2027-28.

The deterioration in the underlying cash balance beyond 2024-25 has been accompanied by a large upward revision to net debt of $84.4 billion across the forward estimates.

Net interest payments are expected to rise from 0.5 per cent in 2024-25, reaching 0.7 per cent of GDP by 2026-27.

The Government has also been able to issue new debt on average at a slightly lower interest rate since MYEFO, with the assumed yield on 10-year government bonds revised down from 4.7 per cent at the MYEFO to 4.2 per cent over the forward estimates. This was driven by the moderation in inflation and cash rate expectations over the first few months of the year.

Growth remains sluggish and the labour market is expected to weaken

Treasury’s growth estimates for the current financial year have remain unchanged, with expectations of a 1.75 per cent growth rate in 2023-24. While possible, this could prove to be a little optimistic, given rate hikes continue to flow through the economy, subduing household consumption more than previously expected.

Treasury has revised forecasts for 2024-25 and 2025-26 downwards by 0.25 percentage points to 2 and 2.25 per cent respectively, implying they expect a slower return to Australia’s long-run growth path than the Reserve Bank.

The unemployment rate for 2023-24 was also revised down from 4.25 per cent to 4 per cent, reflecting the labour market’s continued resilience. But Treasury expects labour market conditions to ease, with the unemployment rate expected to peak at 4.5 per cent in 2024-25. This would be slightly above Treasury’s estimate of the Non-Accelerating Inflation Rate of Unemployment (NAIRU) of 4.25 per cent.

The Government forecasts inflation falling back to the 2 to 3 per cent target band by the end of the year, compared to the December 2025 forecast for the Reserve Bank.

The Consumer Price Index (CPI) forecast was revised down from 3.75 per cent to 3.5 per cent in 2023-24, with Treasury expecting that the upward surprise in the March quarter will be more than offset by the lower-than-expected June quarter data. However, Treasury is opting to keep forecasts unchanged at 2.75 per cent in the year to the June quarter 2025.

The Government argues that bill relief on electricity and Commonwealth Rent Assistance will take 0.5 percentage points off inflation in 2024-25 and not add to broader inflationary pressures.

Wages forecasts remain unchanged for this financial year. The annual growth rate of the Wage Price Index (WPI) remained at 4 per cent and 3.25 per cent for 2023-24 and 2024-25 respectively. However, Treasury forecasts real disposable incomes growing by 3.5 per cent in 2024-25 – the fastest growth in a decade. This is expected to be driven by the combination of moderating inflation due to the government’s tax cuts and the above long-run average growth in labour incomes.

The Budget entails a substantial upward revision in population growth this financial year, which is now expected to reach 2 per cent compared to 1.7 per cent expected in the 2023-24 Budget. The upward revision stems from stronger-than-expected net overseas migration since international borders re-opened. Population growth projections are unchanged from last Budget in the following two years, at 1.5 per cent in 2024-25 and 1.5 per cent in 2025-26.

Treasury left the productivity assumptions unchanged at 1.2 per cent which is below the long run average growth rate of 1.5 per cent.