Cutting government spending may slow prices, but it could bring on something worse

Opinion

November 6, 2026 — 5:00am

It’s easy to take our anger out on people we’re closest to. Bad day at work? Testing times at school? Your favourite team losing a game?

Often, those in our immediate vicinity cop the brunt of our frustration – even if our dissatisfaction has little, or nothing, to do with them.

The Reserve Bank and the government, similarly, cop a lot of criticism for what people see as their roles in our economic demise. Neither of them are perfect, but the problems they are tackling are not of their making. Nor is the solution as easy as calling for the government to cut spending or the bank to cut interest rates.

The bank has come under fire for raising interest rates (most recently to the highest level since the global financial crisis): hammering mortgage holders, slowing the economy down to a crawl and undoing some of the gains we’ve had in the jobs market.

The bank’s aim, of course, is to dampen the rate of price growth across the economy – and not raising interest rates would have probably put it in the firing line for doing too little about inflation.

The government, similarly, is grappling with competing demands. On the one hand, it is getting blasted for spending “too much” (and therefore making the Reserve Bank’s job of tackling inflation harder).

On the other hand, as Reserve Bank governor Michele Bullock points out, the government has an obligation to provide many goods and services, from Medicare to income support payments (without which many of us would probably be quite unhappy – and unhealthy).

And as Australia Institute economists Matt Grudnoff and Greg Jericho note, government spending has already been playing a diminishing role in our economic growth recently – especially when considering population growth.

Without government spending in the three months to June (the most recent period for which we have “national accounts” data), the country would have dipped into a per-person recession.

While the economy grew 0.4 per cent in the June quarter, our population growth meant that everyone’s bite of the pie was no bigger than it was the previous quarter.

A recession is not a fun experience, nor is it just temporary pain: it upends people’s lives.

In the quarter before that (the three months to March), the Australian economy grew 0.3 per cent, but per-person economic growth actually shrank by 0.1 per cent. That is, on average, Australians were worse off.

Since government spending contributed to about one quarter of economic growth in the June quarter, without it, the country would have ended up in a “per person recession”.

Remember, a recession is two consecutive quarters of negative economic growth.

Now, some people may think a recession is an acceptable trade-off for dampening inflation. But there’s a reason the Reserve Bank, government, and indeed most of us, are reluctant to go down that path.

A recession is not a fun experience, nor is it just temporary pain: it upends people’s lives.

Those who lose their jobs during a recession often struggle for years – up to a decade – to return to the salaries they were once on. Some end up never working again at all.

And a recession tends to hurt vulnerable people most, disproportionately harming low-income households and younger workers trying to find a foothold in the jobs market, deepening inequality.

Businesses also cut back on research and development: a key to driving long-term productivity (something that has been lagging in Australia), and newer, innovative start-ups which otherwise would have succeeded may fail.

As we know, productivity growth (our ability to produce and provide more – or better quality – goods and services with the limited resources we have) is crucial for lifting our living standards and dampening inflation.

While the Reserve Bank has pushed back against suggestions we’re at risk of a recession, we are very much on a knife’s edge.

The country’s major banks, CBA and NAB both see economic growth slowing to about 1 per cent next year and HSBC chief economist Paul Bloxham (formerly an economist at the Reserve Bank) has put the chances that we slip into a recession at 50 per cent.

And as Bullock herself acknowledges, Australians are poorer – and they’re feeling it.

Pulling back government spending now is likely to worsen the risk of a recession and of more people flocking to populist parties such as One Nation.

The fact that we’re poorer isn’t the government or the bank’s doing.

Sure, higher interest rates are leaving many households with less to spend, but they are also helping to dampen price growth (without which we wouldn’t be able to afford as much).

And while government spending is adding to the overall level of “demand” in the economy, pushing up against our limited “supply” capacity and therefore increasing price pressures, it has also stopped us from slipping into a per-person recession.

Treasurer Jim Chalmers has said the government can – and intends to – “play a helpful role” in the fight against inflation with some savings to come in its mid-year budget update next month.

If it decides to go down that path, there are some things the governments could cut back on with relatively less harm – especially to those who are vulnerable.

For example, the Australia Institute suggests the government could wind back some of its subsidies to private schools, saving up to $21 billion a year. Or, it could reduce superannuation tax breaks for high income earners, giving it back $65 billion in forgone revenue.

The government could also abolish the luxury car tax exemption for big utes, saving $250 million a year for vehicles which impose substantial costs on society including higher carbon emissions, road damage and safety risks.

It’s important to remember, however, that the economic trouble we find ourselves in right now is largely the result of factors the government and Reserve Bank have little control over – and which are, in some senses, temporary.

First, the war in the Middle East has caused oil and fuel prices to surge, with big knock-on effects to the prices of other goods and services which are made, produced or transported using those resources.

Second, the global AI boom has driven massive demand for data centre construction and pushed up the prices of inputs: everything from energy to memory chips and construction workers. Most of the spending from this boom – about 70 per cent according to the bank – is ending up overseas, in the form of profits for overseas owners or money paid to overseas suppliers for imports.

And since imports are technically subtracted from the equation for economic growth, a lot of data centre spending is slowing down our economy.

The government can, of course, limit approvals for data centre construction. But that doesn’t stop the global shortages in resources that are driving up prices across the board. And there is a risk that stifling AI development could leave Australia behind in reaping the productivity and economic benefits of AI.

The Australia Institute suggests we should do everything we can to avoid a recession. “If the price of doing that is having inflation that has been largely caused by external factors, still elevated for a longer period, then that is a price we should be happy to pay,” it says.

While frustration about inflation is often more vocal and visible, especially because it affects everyone, both the government and bank should be cautious about being too heavy-handed in the fight against it.

The tricky position we’re in now is not, for the most part, caused by the bank or government (though they cop the brunt of the blame). That doesn’t mean they’re off the hook, though – or that they should bend to pressure.

Inflation might generate more vocal anger, but recessions often cause deeper and longer-term economic devastation with life-changing damage that can be irreversible.

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Millie Muroi is the economics writer at The Sydney Morning Herald and The Age covering workplace and economics. She was formerly an economics correspondent based in Canberra’s Press Gallery and the banking writer based in Sydney. Instagram/TikTok: @millie.muroiConnect via X or email.

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