Henry told a business forum that it was dangerous for Australia to rely on fiscal drag to generate enough income tax to manage its burgeoning public debt bill.

He said few people cared about debt when interest rates were low but once rates did rise government would have to make a hard choice between raising taxes or slashing public spending.

Henry conducted a comprehensive review of the tax system when he was the Rudd government’s treasury secretary a decade ago, only to see most of his recommendations for reform shelved.

Now, in a speech to a workshop organised by the Tax and Transfer Policy Institute and the Business Council of Australia, he has warned of the dangers of shirking reform.

“The Australian tax system is in a parlous state. It is not capable of raising sufficient revenue to fund the activities of government — not in any particular year, nor on average over a run of years of any duration,” he said.

“Since that is the purpose of taxation, there can be no avoiding the conclusion that the Australian tax system is not fit for purpose.”

He said Australia’s ageing population meant there were fewer and fewer workers contributing to the tax system, posing a serious threat to intergenerational equity.

“So, the future choice is really between draconian spending cuts and major tax reform,” he said.

“Major tax reform that supports higher rates of income growth could avoid the need ever to raise tax rates.”

However, the current system was not serving the interests of the most disadvantaged as it was punishing innovation, denying people opportunity, depressing wages growth, undermining the sustainability of government service provision and increasing the risks of sweeping spending cuts in future ‘horror budgets’.”