Australia’s state and territory governments are confronting an escalating debt crisis, with rising public sector wages and politically motivated spending pushing average credit ratings to a 25-year low. Analysts warn the situation is likely to worsen as premiers ramp up spending to secure voter support ahead of upcoming state elections.
Despite the end of the COVID-19 pandemic more than four years ago and persistently low national unemployment, borrowing levels across Australia’s states are ballooning. A recent report by S&P Global Ratings indicates that public sector trade unions are likely to pursue even larger pay rises in the years ahead, particularly in the lead-up to tight electoral contests.
“Tight election races in some states have seen ministers, across the political spectrum, promise new spending initiatives while largely ignoring budget repair,” S&P noted. “The challenge for states is political, not financial. Leaders have learned that spending is popular, while attempts at savings are often disparaged as austerity.”
While the federal government retains a top-tier AAA credit rating, the average rating for Australia’s states and territories has slipped to AA+, the lowest level since 2000. Collectively, these subnational governments carry a debt load of around $660 billion. In recent months, Tasmania and the Australian Capital Territory were downgraded from AA+ negative to AA stable, while Queensland’s outlook was revised to AA+ negative, largely due to expected normalization of coal royalty revenues.
Like New South Wales, Queensland is projected to maintain a negative outlook through 2026. Meanwhile, smaller states are continuing to expand spending, even as NSW and Victoria pare back infrastructure projects. S&P notes that ratings downgrades are often accompanied by higher government bond yields, increasing the cost of servicing debt and further straining budgets.
State budget deficits now account for approximately 16 per cent of revenues, matching levels seen during the extended COVID lockdowns in Sydney and Melbourne in 2021. Western Australia remains an outlier with a AAA credit rating, aided by strong iron ore revenues and resource-driven windfalls that have bolstered its fiscal position. “Resource-rich Western Australia stands apart. Our base case assumes iron ore prices remain above the levels assumed in the state budget, supporting stronger royalty revenues and outperforming other states,” S&P said.
Elsewhere, however, debt burdens are expected to rise. Analysts warn that fiscal discipline is waning, with states quick to spend windfall revenues. “The COVID-19 emergency in Australia ended years ago, but some state governments are spending as if they were still in lockdown,” S&P said. The 28 per cent wage increase awarded to Victorian nurses over four years, implemented more than a year ago, could embolden unions in other states to demand similar deals, placing further pressure on budgets.
Collectively, state and territory governments employ around two million workers, making salaries the largest expenditure in their budgets. S&P noted that public sector staff expenses have typically increased by 7 to 8 per cent annually—far exceeding the 2 to 3 per cent levels forecast in budgets. Last year, wages accounted for 77 per cent of public sector employment costs, with $190 billion spent nationwide, compared with just $40 billion for the federal government.
Public sector wages grew by 3.8 per cent in the year ending September 30, 2025, outpacing private sector growth of 3.2 per cent. Since early 2025, government-funded jobs have consistently received larger pay rises than those in private enterprise. S&P cautioned that compensating public servants for historically low wage growth could further strain state budgets, particularly as governments continue to commit to generous pay agreements.
With unemployment below five per cent across Australia, S&P suggests that high government spending is motivated less by economic necessity than by political considerations. “The media has amplified each crisis-of-the-week—from health and youth crime to housing and the cost of living—prompting calls for more government intervention,” the report said.
Responsible economic management appears to be declining as a voter priority, reducing the political incentive for state governments to rein in spending. Higher expenditures have coincided with widespread public reluctance toward structural reforms that could enhance productivity and long-term economic growth. Polling indicates that concerns over debt and deficits have dropped significantly on voters’ lists of priorities, giving premiers greater latitude to spend without immediate political repercussions.
In this environment, S&P warns that Australia’s states risk entering a cycle of increasing debt and fiscal vulnerability. While some resource-rich states may maintain stability, others are expected to face mounting budget pressures, higher interest costs, and ongoing calls for expansive public sector pay rises.
“The combination of generous wage settlements, politically motivated spending, and low public concern for debt creates a fiscal environment that is increasingly unsustainable,” S&P concluded. “Without decisive action, the states’ debt situation is likely to deteriorate further in the coming years, posing broader risks to Australia’s economic stability.”
As premiers prepare for elections in the near future, voters are likely to see more high-profile spending announcements, further complicating efforts to achieve sustainable budgets. Economists and rating agencies alike caution that unless states adopt stronger fiscal discipline, Australia’s subnational debt crisis may deepen, challenging the long-term health of the nation’s finances.
