Australia's $50 billion fiscal gap requires tax reform: CEDA

In an assessment of fiscal policy released ahead of next month's budget, the Committee for the Economic Development of Australia has backed the government's short-term financial strategy to bank windfall revenue gains and restrain spending, but has warned this will not be enough to close the yawning deficit over the next decade.

CEDA chief economist Jarrod Ball said the government needed to take action to improve the quality of its spending, boost productivity, increase investment in disaster preparedness and build momentum on tax reform.

"Without better policies and practice in these areas, the government will be unable to close the $50 billion fiscal gap between revenue and spending that stretches across the next decade," Mr Ball said.

He warned if there was not a "material" improvement in the budget's position, "the federal government will be spending more each year on interest to service debt than it will on aged care or Medicare".

Government debt surged to almost $895 billion last October and is forecast to reach $1.15 trillion (43 per cent of gross domestic product) by the end of 2025-26. The interest bill on this debt is expected to top $18 billion this financial year and reach almost $32 billion by mid-2026.

A jump in revenue from soaring commodity prices, increased company profits and high employment has meant the deficit is currently around $20 billion smaller than had been expected in October, and the government has flagged its intention to continue the strategy it pursued in the last budget to direct most of any tax receipt windfall to reducing debt.

Australia's Treasurer Jim Chalmers said the government found $22 billion of savings in the last budget and banked 92 per cent of revisions to revenue.

In an opinion piece last week, the treasurer said "common threads tie the strategy of the last budget to the next one: striking the right balance of near-term and longer-term priorities; delivering the best combination of relief, repair and restraint; and putting a premium on the quality of spending not just the quantity".

But the opposition has accused the government of failing to contain spending and exacerbating the nation's inflation problem.

Opposition treasury spokesman Angus Taylor said the government was "talking a big game on restraint, but we haven't seen it", criticising its abandonment of "fiscal guardrails" such as the long-standing goal of keeping tax revenue below 23.9 per cent of GDP.

But Mr Ball said such criticism was misguided.

He said research undertaken by CEDA found "prescriptive and arbitrary" fiscal rules often did more harm than good.

"As long as the government is meeting the commitments outlined in its fiscal strategy, stronger rules are neither necessary nor desirable at this time," the CEDA economist said.

Mr Ball said the government's short-term strategy was "the right one to pursue" but warned a different approach was needed to achieve long-term budget repair.

"While there is an opportunity to get better value for money from spending, there is not a huge amount of waste ... so it does suggest that tax will need to play a role," he said.

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The economist said in the short-term the government should reassess the stage 3 tax cuts and pursue "pragmatic" reforms to broaden the tax base, such as winding back work-related expense deductions.

But he said a much more far-reaching overhaul of the tax system was needed in the long-term, and suggested the forthcoming release of the Intergenerational Report was an opportunity to frame a substantive public debate about the kind of tax system the country needs for the coming decades.

Mr Ball said the tax treatment of capital gains needed reform and suggested moving to a system where labour and income were taxed separately and there was greater consistency in the concessional treatment of investment income.