Budget tax changes spare RBA inflation, says economist

CreditorWatch Chief Economist Ivan Colhoun said the Federal Budget introduces targeted tax changes without adding short-term inflation pressure, with the measures focused on higher-income Australians.

He said the package takes incremental steps on tax reform through changes to negative gearing, capital gains and discretionary trusts, while avoiding fresh cost-of-living support that could complicate the Reserve Bank of Australia's inflation task.

In his view, the budget's centre of gravity is fairness rather than broader fiscal repair. The changes are framed around intergenerational equity and housing access for younger Australians, but do little to materially strengthen the medium-term budget position.

That leaves public finances exposed if economic conditions weaken. Overall, he said, the budget remains relatively modest despite some movement in the right direction.

"Overall, there are some useful tax reform steps, there haven't been any significant cost of living handouts to further worry the RBA, but the most important long-term tax reform seemingly does not appear addressable by either party in Australia," said Colhoun.

Tax changes

Central to Colhoun's analysis are measures that tighten tax settings affecting wealthier Australians. He said the budget deliberately reduces tax benefits that have largely accrued to higher earners, especially through the interaction of negative gearing and the 50% capital gains tax discount, as well as through the use of discretionary trusts.

He said those measures will be politically contentious and are likely to divide opinion along party lines. Conservative voters are likely to criticise the changes as redistributive, while supporters will argue they improve housing access and make tax outcomes more even across income groups.

He also noted that politically harder reforms remain untouched. The top marginal tax rate, the income threshold at which it applies, and the rate of the Goods and Services Tax were all left unchanged.

"The main criticisms will likely be that the medium-term trajectory of the budget is not significantly improved, leaving Australia's finances vulnerable to economic downturn, while more broadly, the top marginal tax rate remains too high and continues to apply from too low a level of income (47% including the Medicare levy above $190,000)," said Colhoun.

He added: "That for me is the number one tax reform priority going forward but likely requires a courageous government to simultaneously address the rate of the GST."

Budget position

Colhoun said the government has forecast a deficit of AUD $31.5 billion in 2026-27, compared with an estimated AUD $28.3 billion deficit for the current financial year. He noted that last year's budget had projected a larger AUD $42.1 billion deficit for the same period, suggesting some improvement on earlier expectations.

Relative to an economy worth about AUD $3 trillion, the deficit remains small at about 1% of GDP, he said. In the medium term, it is forecast to stay at 1% of GDP until 2029-30 before improving to 0.7% as growth in outlays slows.

Even so, he said the cumulative improvement in the budget position over the three years to 2028-29 is only AUD $9.5 billion compared with the Mid-Year Economic and Fiscal Outlook, which he described as relatively small. Much of the improvement is also delayed because new revenue measures do not begin until the late 2020s.

A long-running criticism of the federal budget, he said, remains the level of government spending as a share of GDP. In his view, higher outlays require higher tax receipts to keep deficits contained, although ageing, the National Disability Insurance Scheme and defence spending explain a substantial part of the increase.

Still, he warned that a large spending base makes the budget more vulnerable in a downturn because weaker growth would both cut revenue and lift spending on unemployment support. Australia has benefited from both major political sides trying to repair the budget in stronger years to preserve room for support when conditions worsen, he said.

Inflation and forecasts

On the inflation outlook, Colhoun pointed to the absence of new broad cost-of-living handouts beyond fuel excise changes already announced. He said the new AUD $250 Working Australian Tax Offset has been delayed until 2027-28, while previously legislated tax cuts for 2026-27 and 2027-28 were left unchanged.

That matters because any near-term household support could have complicated the RBA's effort to return inflation to target. The budget avoids that risk, he said, which should be viewed positively from an interest-rate perspective.

He also said Treasury's economic forecasts are slightly more optimistic than those published by the central bank. Growth is expected to be stronger in 2026-27, wages are projected to rise slightly faster, and medium-term inflation forecasts are broadly similar.

Colhoun highlighted the budget's assumptions on oil prices as a major variable. The central forecast assumes oil rises to USD $100 per barrel in the June quarter before falling to USD $80 by the middle of next year, implying an early easing in Middle East tensions.

He said the adverse scenario is far more severe, with oil peaking at USD $200 per barrel and only gradually returning to USD $80 by the middle of 2029. Under that scenario, the official growth and unemployment effects still appear relatively mild given the scale of the shock, especially as Treasury modelling points to only one quarter of negative growth.

"In both the RBA and Treasury forecasts, the forecast increase in unemployment looks relatively small considering the slowdown in growth forecast, especially in the case of the adverse scenarios, where Treasury modelling surprisingly suggests that Australia will only experience one quarter of negative growth," said Colhoun.