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Interest bill piling up on Victoria, state budget shows

Economists' calls for Victoria to slash infrastructure spending to stabilise credit ratings have been heeded, but the state is still set to pay $25.8 million a day to service mounting debt.

The 2024/25 state budget forecasts Victoria's net debt will hit $187.8 billion by mid-2028, pushing up interest expenses to $9.4 billion annually.

Interest expenses as a share of total revenue are expected to average 7.8 per cent a year over the next four, but Treasurer Tim Pallas has played down the significance.

Victorian Treasurer Tim Pallas
Tim Pallas said the government was reducing net debt as a proportion of the state's economy. (Diego Fedele/AAP PHOTOS)

"Our daily interest expenses is effectively 1/4000th of one per cent of the economy," he told reporters after delivering the budget on Tuesday.

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"We'll be able to manage that.

"As the economy grows ... from $600 billion to three quarters of a trillion, it will effectively enable an accelerating reduction in debt as a percentage of (gross state product)."

Building costs have grown 22 per cent since 2021, with the Victorian government moving to cut infrastructure spending from $24 billion this financial year to $15.6 billion by 2027/28.

But credit ratings agency Moody's said sustained inflation pressures, particularly from employee and interest expenses, would continue to fuel expenditure growth in combination with the state's large capital spending program.

"We do not expect Victoria's debt burden to stabilise before the end of fiscal 2028, maintaining negative pressure on the state's rating," it said.

"Debt affordability has continued to deteriorate with the state projecting interest payments to increase to 6.2 per cent of revenue by end June 2024 (compared to 4.7 per cent in fiscal 2023) and will significantly constrain Victoria's operating profile over time."

Moody's stripped Victoria of its AAA status in February 2021 and downgraded its rating from AA1 to AA2 in 2022.

S&P Global Ratings downgraded Victoria's credit rating two notches in 2020 from AAA to AA, the lowest rating of any Australian state or territory.

Credit rating downgrades make it more expensive for governments to service debt, leaving less money for hospitals, roads and schools.

S&P analyst Anthony Walker said Victoria was partially shielded from rising interest rates as the state mainly draws funds through fixed-rate, long-term loans.

But he warned ratings pressure could build if the state's financial management wanes.

"This could occur if the operating position doesn't return to a surplus or debt rises toward 240 per cent, or interest expenses to 10 per cent, of operating revenues," he said.

Treasury forecasts Victoria will be back in the black to the tune of $1.5 billion by next financial year, after posting a $2.2 billion deficit this financial year.

However, Mr Walker said Victoria's fiscal recovery had taken much longer than many other sub-national governments despite its mooted return to surplus and flagged reduction of capital spending.

"Today's budget confirms the government's accounts are in large structural fiscal cash deficit when accounting for capex," he said.