The consumer watchdog will monitor domestic air services to ensure Australians reap the benefits of a competitive sector through cheaper tickets and better services.
The Australian Competition and Consumer Commission will ensure airlines compete on merit and tackle inappropriate market conduct that stifles competition.
Key areas will include airline capacity for each route and industry performance, such as cancellations and delays.
It will start before the end of the year and reports will be handed down quarterly.
Treasurer Jim Chalmers said Australians deserved a "safe, sustainable and efficient aviation sector that provides a high standard of service, good prices and better consumer protections".
"A competitive airline industry helps to put downward pressure on prices and deliver more choice for Australians facing cost-of-living pressures," he said in a statement.
But the coalition is accusing the government of taking the side of corporate fat cats after the government rejected a bid to extend a committee looking at cheaper airfares, and have it hear from former Qantas boss Alan Joyce.
The Senate on Wednesday voted down an extension of time for the committee to continue probing a decision by the government to knock back Qatar Airways' bid to double flights into Australia.
The Greens and independent senator David Pocock sided with Labor to vote down the coalition motion.
Opposition transport spokeswoman Bridget McKenzie branded the decision a government-run "protection racket for the former CEO of Qantas".
"The prime minister has revealed who he really backs in this country and it's not mums and dads travelling ... it's actually his crony, capitalist mates," the Nationals senator told reporters in Canberra on Wednesday.
"They're backing a fat cat like Alan Joyce and a company that's behaved as egregiously as Qantas has over the concerns and needs of everyday Australian families who just want an aviation industry (where) they can afford a ticket."
The coalition-led committee reported earlier this month, recommending an extension of time to call Mr Joyce for questioning over whether there was pressure placed on the government to limit Qantas' competition.
The failure to extend the committee means it's been dissolved and essentially stops the coalition's efforts to summon Mr Joyce to give evidence.
The government has repudiated the allegation that any deal was done with Qantas to prevent Qatar from getting extra flights, maintaining the application was rejected in the national interest.
Transport Minister Catherine King has not confirmed on what national interest grounds the flights were refused.
But she said the invasive gynaecological search of five Australian women in Doha formed part of the context behind the decision.
Australian Associated Press