Economists Pressure Treasurer to Support RBA with Fiscal Measures
Treasurer Jim Chalmers is under mounting pressure to provide crucial support to Reserve Bank governor Michele Bullock in her ongoing battle against persistent inflation. Economists are urging the government to implement significant spending cuts and introduce productivity-enhancing reforms in the upcoming federal budget, following the RBA's unexpected decision to hike interest rates this week.
RBA's Surprising Policy Reversal
The Reserve Bank of Australia executed a dramatic policy reversal on Tuesday, increasing interest rates just six months after implementing cuts. This move was necessitated by inflation continuing to drift further from the central bank's target range, despite modest annual GDP growth of only 2.3 percent.
Governor Bullock has been careful to avoid directly blaming government policy for the inflationary pressures, but economists suggest she will be hoping for two specific actions from Dr Chalmers in the May budget to assist her monetary policy efforts.
The Economic Engine Overheating
The fundamental reason behind the RBA's drastic volte-face lies in the economy's constrained speed limit, according to financial analysts. Low productivity growth has restricted economic capacity while substantial government spending has acted like a turbocharger, burning through available resources at an unsustainable rate.
Following three interest rate cuts implemented in 2025, household spending, business investment and residential construction rebounded much more vigorously than the central bank had anticipated. With private sector demand expanding robustly and government expenditure remaining elevated at 26.9 percent of GDP, the economic engine is now operating at maximum capacity despite minimal policy stimulus.
Immediate Fiscal Solutions Required
AMP chief economist Shane Oliver has identified the most immediate action the government could take to combat inflation: reducing public expenditure to create more room for private sector growth. "Otherwise, the RBA will be forced to hike rates again to get inflation down," he warned. "Then you will wind back private demand, and that could have negative consequences."
However, implementing such spending restraint presents significant political challenges. The government faces formidable opposition to constraining growth in the National Disability Insurance Scheme, while an ageing population continues to overload health and aged care services. Additional pressures include growing demands to increase defence spending and the escalating cost of servicing nearly $1 trillion in government debt.
Targeting Popular Programs
Programs such as the NDIS and childcare subsidies remain popular with voters but distribute funds in a non-targeted manner that economists argue contributes to inflationary pressures. Dr Oliver suggests reducing reliance on these "in-kind" payments and increasing means-testing should become budgetary priorities.
While the government has taken initial steps to control expenditure, including lowering the NDIS growth target from eight to six percent annually, Deloitte Access Economics partner Stephen Smith believes more comprehensive action is required. "It needed to look across the budget holistically and determine whether every dollar was being spent as efficiently as it could be," he emphasised.
Boosting Economic Capacity
The second critical component of the inflation solution involves increasing the economy's supply capacity through productivity reforms. "What the government can do there is policy reform to help to boost productivity, to boost investment, and improve the run rate that the economy can grow at," Mr Smith explained.
Dr Oliver concurs that reducing public spending would naturally enhance productivity by allocating more resources to the typically more efficient private sector. However, he also highlights the importance of longer-term tax reform, suggesting that shifting the tax burden from income towards goods and services would create stronger incentives for work and investment while addressing intergenerational inequity.
Tax Reform Considerations
Potential reductions to the capital gains tax discount on investment properties, which Dr Chalmers has reportedly considered under pressure from the Greens, unions and economists, could also contribute to a more balanced fiscal approach. However, Mr Smith cautions that while this represents worthwhile reform, it would likely have limited impact on productivity enhancement.
"Really, we need a broader basket of reforms, related to company tax investment allowances in particular, and other things like reducing personal income tax, to improve incentives around work and reward for people's work as well," he argued.
Mr Smith expressed reservations about the Productivity Commission's recommendation for a new cashflow tax designed to encourage capital expenditure, suggesting it would introduce excessive complexity and worsen administrative burdens for businesses.
The coming federal budget therefore represents a critical opportunity for the government to implement coordinated fiscal measures that could significantly ease the pressure on monetary policy and help guide inflation back toward the RBA's target range.
