Federal government coffers will take a hammering as a result of the slowing Chinese economy but the government won’t say whether it will push Australia into recession or the budget into deficit.

Prime Minister Kevin Rudd has warned that economic conditions will worsen this year but is promising a “steely” approach to managing the fallout from the global financial crisis.

“Things will get worse before they get better,” Mr Rudd told an Australia Day reception at Kirribilli House on Monday.

“The magnitude of the global financial crisis almost beggars belief,” he said, describing the economic turmoil as the worst the world had seen since the Great Depression.

Mr Rudd promised to be tough himself.

“We will (govern) with a combination of steely economic management and compassion for those who need support,” he said.

Treasurer Wayne Swan also acknowledged turbulent times ahead for the economy, which has relied heavily on insatiable Chinese demand for Australian commodities in recent years.

With China going into freefall, it will mean a sharp drop off in the company profits that have underpinned strong government revenues.

But Mr Swan would not endorse a stark assessment of the economy from Access Economics, which warned the federal budget was “buggered” and that the nation’s recent prosperity would unwind “scarily fast”.

“I do reject that colourful characterisation,” he told ABC Television.

“I do think that that is not necessarily an accurate description of the budget.”

Mr Swan said he stood ready to spend more money to keep the economy afloat, but he would not rush into a further economic stimulus package. The government needed to see more data first, he said.

In its November mid-year outlook, the government cut its forecast budget surplus for 2008-09 to $5.4 billion, down from nearly $22 billion in the May budget, as the magnitude of the global financial crisis became apparent.

The gloomy expectations are set to have a significant effect on the Rudd government’s political agenda.

Last year the government spent $10.4 billion pump-priming the economy and indicated it would consider further stimulus measures.

But Opposition Leader Malcolm Turnbull warned the government against throwing money around without good reason.

“A deficit should be a last resort - not an easy way out,” he told reporters.

Mr Turnbull said households and businesses were making tough choices and the government had to do the same.

New figures showed business was keeping a lid on spending, with commercial finance down 10.4 per cent to $28.4 billion.

And households’ appetite for personal credit eased, down 1.8 per cent to $6.1 billion.

But there were signs the government’s boost to the first home owners grant was doing its job in supporting demand for housing.

There were also indications that the threat of inflation would soon be over, with deflation the new concern.

While the inflation rate currently stands at five per cent, a key inflation measure has fallen to the lowest level in more than three years.

If inflation is no longer a problem, it would remove any qualms the Reserve Bank of Australia might have about cutting the official cash rate from its current 4.25 per cent when the bank next meets on February 3.

TD Securities senior strategist Joshua Williamson said the RBA may be more inclined to cut interest rates by 75 basis points, taking them to levels not seen for 40 years.

RBA Governor Glenn Stevens will give politicians an update on his predictions for the year when he fronts a House Economics Committee on February 20.

AAP