The Australian Federal Budget 2025/26 reaffirms the outlook for underlying fiscal deficits to run in the order of 1-1.5% of GDP over the coming years. Structural pressures from major areas of government spending (including in key priority areas) are significant and have net debt on a rising trajectory. Public demand has been a major support to economic growth and employment alongside easing inflation, and this is expected to continue in the near term.
Budget 2025/26 | Policy Measures
This budget is essentially a refresh of the mid-year update for the 2024/25 budget presented by Treasurer Chalmers just 3 months ago. It includes a number of new policy measures the incumbent ALP will take to this year's federal election - to be held by no later than May 17 - but more announcements are to be expected as the campaigning ramps up. Revenue upgrades have given the Treasurer headroom to announce new measures of $7.1bn in 2025/26 and $25.7bn through to 2027/28, which are targeted at providing cost-of-living support including:
- Tax relief: expansion of the Stage 3 tax cuts, incrementally lowering the 16% tax threshold (on incomes between $18,201 and $45,000) to 14% by July 2027 (cost of $17.1bn over 5 years)
- Bulk-billed GP visits: providing incentives to boost bulk billing rates ($8.4bn over 5 years)
- Energy bill rebates: extension of the $75 per quarter rebates to all households through to year-end 2025 ($1.8bn in 2025)
- Medicines: expanding listings on the Pharmaceuticals Benefits Scheme ($1.8bn over 5 years)
- Infrastructure: funding to priority road and rail projects ($1.8bn over 5 years)
Budget 2025/26 | Fiscal Position
Factoring in the new policy measures, Australia's fiscal outlook remains little changed since December's mid-year update (MYEFO) of the 2024/25 budget. Cumulatively, underlying budget deficits are forecast to run up to $142.7bn across the 4 years to 2027/28, a wafer-thin $1.2bn improvement on MYEFO (-$143.9bn). The deficit position widens to a much more substantial $227.6bn by 2027/28 if spending on a broadening set of 'off-budget' measures - headlined by a 20% reduction on student loans (costing $16bn) - is included.
Forecast deficits across the forward estimates reflect a combination of factors that includes slower upgrades to government revenue - associated with easing commodity prices and moderating economic conditions - structural pressures in the 5 largest areas of government spending: debt interest, the NDIS, defence, hospitals and medical benefits, and discretionary spending decisions. Accordingly, as the chart below shows, government payments are set to outpace growth in revenue over the coming years.
Turning back to the underlying budget position, as reported in MYEFO, the budget returns to deficit this financial year following the successive surpluses posted in 2022/23 ($22.1bn) and 2023/24 ($15.8bn).
The deficit for 2024/25 is now expected to be -$27.6bn (from -$26.9bn in MYEFO), or around 1% of GDP. The budget is expected to remain in the red across the forward estimates, widening to -$42.1bn or 1.5% of GDP in 2025/26. It then narrows to -$35.7bn in 2026/27 and -$37.2bn in 2027/28, equivalent to 1.2% of GDP in both years.
As identified earlier, cumulative underlying deficits total $142.7bn through 2027/28, little changed from expectations in MYEFO (-$143.9bn). Although new policy items cost the budget $25.7bn over the period, this has been offset by a $26.9bn increase in estimates variations.
In 2025/26 and 2026/27 stronger employment conditions than previously expected boosts the government's tax-take (reflected in the green bars) and lowers payments of unemployment benefits (yellow bars). As a result, deficits in these years are narrower than forecast in MYEFO. But the revenue windfall moderates in 2027/28 as the cost of policy decisions increases (orange bars), leading to a wider deficit (-$37.2bn) in that year than forecast in MYEFO.
The forecast trajectory for deficits sees government net debt as a share of GDP rising from 19.9% this financial year ($556bn) to 22.7% ($714.1bn) by 2027/28. Amid the pandemic in 2020/21, net debt surged to a high of 28.4% of GDP. But with interest rates globally slashed to emergency lows and a strong economic recovery, net debt subsequently fell to a cycle low of 18.4% of GDP by 2023/24. Now with the post-Covid tailwinds turning into headwinds - higher interest rates and slower growth - net debt is forecast to rise again. Following the budget, the AOFM has revised up its planned bond issuance for 2024/25 from $95bn to $100bn. Forecast issuance in 2025/26 is around $150bn.
Budget 2025/26 | Economic Outlook
The budget adds to a strong fiscal impulse near term, with public demand (5%) remaining the driving factor of GDP growth in 2024/25 (1.5%). As share of nominal GDP, public demand by the end of 2024 was pressing the highs seen during the pandemic crisis. It is worth noting that Treasury estimates the effects of ex-Tropical Cyclone Alfred deducted around 0.25ppt from GDP growth in the current quarter (Q1).
Overall, the outlook adopted by Treasury for the budget is robust but fairly similar - if anything more pessimistic - to that of the RBA from its recent Statement on Monetary Policy. The economy will need to navigate a hand-off from the public sector to the private sector if the expected pick-up in GDP growth to 2.25% in 2025/26 is to be realised. There are associated risks (in both directions) to the labour market outlook - employment and wages growth - depending on how that transition plays out.
Broadly, the budget is not seen by Treasury as adding to inflationary pressures. The likely assessment is that the new tax cuts are modest in scale and the effect is spread out over several years. Meanwhile, the extension of the energy bill rebates holds down headline CPI for longer, but inflation will then rise later on reaching 3.0% in 2025/26 (up from 2.75% in MYEFO) as they unwind - assuming there are no further extensions.
Uncertainty around the global economic outlook is significant. Trade tariffs are set on weigh on trade and investment, but Treasury notes there could be spillover effects on consumption and labour markets. The current forecasts have global growth holding at 3.25% over the next 3 years, the weakest outlook since the early 1990s. A softer outlook for growth in China contributes to an expected decline in key commodity prices, reflected in expectations for Australia's terms of trade to fall (see table above).
