Doing nothing no option amid threats to withhold funds

Contentious changes to Australia's largest workers compensation scheme are needed to avoid the system's collapse amid a threat to turn off the cash tap.

NSW Treasurer Daniel Mookhey says cash injections in a fund to support injured government workers will cease if reforms do not pass.

The exposure draft is not the government's final position but something needs to change.

"In the absence of reform, we are running the risk of an entire system collapse," Mr Mookhey told a parliamentary inquiry into the changes on Friday.

The state's Workers Compensation Nominal Insurer protects more than 3.6 million workers.

The statutory body, which covers a million more people than Victoria's WorkCover, steps in to cover claims against uninsured employers.

Another fund covers public sector workers.

Mr Mookhey disputed refusing to inject more cash in that fund unless reforms pass was a "brazen ultimatum".

Borrowing more money for the fund crowds out cash for schools, hospitals and the state's other needs, Mr Mookhey said.

It also prevents investment in the "prevention culture" hoped to stop psychological injuries from occurring.

The treasurer denied trying to protect his budget and said leaving the failing scheme unchanged would create further harm.

Unions NSW have attacked the Labor government's plans, while peak bodies have warned rising premiums risk crushing businesses.

Unions NSW secretary Mark Morey told the inquiry it was yet another attempt to slash support for workers in the face of "a broadly unspecific, pending financial crisis".

But this time society had accepted psychological injuries should be taken seriously.

"There is ample room for reform ? but what this government is proposing is not reform, it is dragging us back to a time where we ignored psychological injury and mental health wellbeing," Mr Morey said.

A proposal to redefine one key term relating to mental health has attracted fierce criticism.

Members of Labor's progressive faction have been urged call for the "dangerous" changes to be abandoned.

"This will impact essential workers suffering from conditions like PTSD, burnout and vicarious trauma the most," NSW Labor Left secretary Rosie Ryan said.

The Australian Association of Psychologists warns the scheme is unfit for managing psychological injuries, which face the same requirements as physical injuries.

"This is akin to trying to fit a round peg into a square hole and has created problems with the way claims are assessed and managed," the association's vice-president Katrina Norris submitted.

While reform was needed for mental health claims, raising the threshold of "permanent impairment" to 31 per cent risked requiring psychological injuries to be more debilitating than physical injuries to qualify, Dr Norris said.

"An impairment of 15 per cent requires an individual to be unable to function independently in almost all domains of life."

Raising the threshold could conceivably exclude nearly all workers from making a claim, NSW Law Society president Jennifer Ball said.

The society proposes an impairment level of 21 per cent, allowing claims from severely impacted workers while easing pressure on insurance premiums.

Lifeline 13 11 14

beyondblue 1300 22 4636