The upcoming Federal Budget must deliver both fiscal sustainability and structural reform. Increasingly, however, both tasks depend on something governments rarely talk about directly: capability.

At Budget time each year, the late Canadian Finance Minister Jim Flaherty used to say he needed both a microscope and a telescope on his desk – one to focus on the detail and the other on the long term.

Treasurer Jim Chalmers arguably faces a harder Budget environment than any in living memory: managing cost-of-living pressures and global uncertainty while investing in a future that remains fairer and more prosperous for younger Australians.

This Budget is being asked to do more heavy lifting than any in recent years. While attention will focus on tax reform and immediate fiscal pressures, two other areas deserve equal scrutiny on Budget night: the future of the NDIS and Australia’s emerging industrial strategy.

Together, they expose a deeper national challenge.

Increasingly, Australia’s biggest economic and social problems are capability problems – our ability to translate public investment, policy intent and institutional effort into real-world outcomes.

In both the NDIS and industrial strategy, Australia must now navigate three tasks simultaneously: fiscal discipline, structural reform and future-readiness.

The NDIS in particular reminds us how easily governments can overestimate the capacity of systems to translate policy ambition into outcomes. It is a classic case of “premature loading”: asking systems to carry more than it is feasible to deliver.

Managing short-term pressures with discipline

The macroeconomic task for this Budget is difficult. Governments are under pressure to respond to cost-of-living pressures while still managing inflationary risks and growing global uncertainty.

The discipline of timely, targeted and temporary support must prevail.

Overshooting would risk fuelling inflation and forcing the Reserve Bank to do more of the work – at everyone’s expense. Preserving fiscal space may not feel politically attractive, but it is prudent.

The NDIS illustrates the broader fiscal, policy and governance challenge facing Australia. The scheme is rightly described as a defining expression of Australian values – dignity, inclusion and support – but it is also growing at a rate that cannot continue indefinitely.

Fixing this is not simply a budget repair exercise. It is simultaneously a test of fiscal management, system reform and capability building.

The Government is attempting to slow cost growth, focus support on those with the greatest need and strengthen governance. All are necessary. But the next phase of the NDIS will require something more: relational and community-based solutions that governments have historically struggled to build.

One of the major pressure points – psychosocial conditions linked to loneliness, trauma, anxiety and disengagement – has received only fragmented support for decades. Every major mental health review in recent memory has identified the gap.

Failing to address it is a false economy. We either pay financially through the NDIS and acute health systems, or socially through isolation, disengagement and declining trust.

Reforming major policy systems

At first glance, the NDIS and industrial strategy appear unrelated – one about care, the other growth. In reality, both expose the same underlying issue: Australia has become better at announcing ambitious policy goals than building the institutional capability required to deliver them.

In economic policy, that challenge increasingly centres on coordination, aligning public investment, industry, workforce capability and long-term strategy in ways Australian institutions have historically struggled to sustain.

Industrial strategy is often poorly understood. At its core, it is about reshaping economic structure – helping labour, capital and knowledge move toward higher-value activities that generate stronger productivity growth and better jobs.

But achieving structural transformation is not simply an economic challenge. It is also an institutional and political one. Structural change inevitably creates winners and losers,  and the enduring political challenge is how to bring affected workers, firms and communities with you.

Industrial strategy is already reshaping Australia’s economy as governments seek to strengthen sovereign defence capability and transition to a lower-carbon future. Both require the mobilisation of large-scale public and private investment alongside new forms of strategic coordination, leadership and governance.

These industrial and technological transitions also expose broader weaknesses in Australia’s innovation system. The recent Strategic Review of Australia’s R&D system examined part of this challenge, though through a specific, linear model of innovation. The Review correctly observes that Australia’s strong research base, skilled workforce and willingness to adopt technology have not translated into broad-based innovation and productivity growth.

But it pays too little attention to industrial ecosystems, diffusion and capability.

Still, the Review points to several important directions: reshaping the R&D tax incentive to encourage more collaborative innovation, building industrial collaboration at scale through the proposed National Strategic Initiatives, and strengthening management, leadership and workforce capability across the economy to accelerate technology adoption and diffusion.

While a full-blown Future Made in Australia strategy is not expected until 2027, this Budget is an opportunity to signal direction and start building the institutional foundations for a more coherent industrial strategy.

Industrial strategy will be more effective if accompanied by reforms that address market concentration and strengthen long-term innovation finance.

The structure of some Australian industries inevitably imposes a speed limit on growth and innovation. Small domestic markets translate into limited competition, slow technology adoption and dampened productivity growth.

Similarly, Australia should never be short of innovation finance. Our banks and superannuation funds benefit enormously from public policy settings, and greater contributions to national innovation and long-term capability building should increasingly be expected in return.

The Australian Government could also help by finally establishing a large-scale sovereign investment vehicle designed to benefit from the long-term equity premium, generating returns that can then be reinvested into diffusing the next set of future-ready capabilities.

Making Australia future-ready

“State capability” is a term used in development economics to describe the ability to translate policy intent and public resources into outcomes. Alongside funding and policy design, it helps explain why public outcomes so often disappoint even as public spending rises.

Such capability is the missing bridge between fiscal sustainability, structural reform and national renewal.

And capability here is about more than government alone. It includes the abilities of business and civic leaders and institutions to work together under conditions of complexity and uncertainty to drive public outcomes.

Australia’s collective capability has not kept pace with the world we are now required to navigate. Our institutions remain too slow to adapt, coordinate and organise around emerging challenges.

Building capability is not politically glamorous. But it is what ultimately determines whether nations are future-ready – able not only to withstand disruption, but to use periods of uncertainty to see and seize new opportunities.

Accountability does not rest with governments alone. The capabilities that matter are collective. James Robinson and Daron Acemoglu argue that societies progress along a “narrow corridor” in which governments and non-governmental institutions both evolve.

Australia does not face the existential pressures confronting some nations. But current events and a more uncertain world may provide an opportunity to forge greater national purpose and seriousness. We should not let this crisis go to waste.

This Budget window feels different

This Budget brings Australia’s fiscal and policy challenges into sharper focus.

But the defining question for advanced economies is no longer whether governments spend more or less. It is whether societies have a strategy to build the collective capabilities needed to adapt to disruption, manage complexity and mobilise collective effort.

Australia enters this period with enormous strengths: social cohesion, abundant resources, world-class research institutions, deep pools of capital and a healthy, educated population.

But advantages alone are never enough. Nations progress when they intentionally organise those capabilities around shared purposes that speak to the future.

That is the deeper test facing this Budget.

Not simply whether it balances competing fiscal pressures, but whether it helps Australia become more capable, coordinated and future ready.

In an era defined by uncertainty, that may prove the most important form of economic reform of all.

Rod Glover is Interim CEO of the Australian Public Policy Institute. 

Image credit: Tourism Australia