It’s never been cheaper for governments to borrow. What could possibly go wrong?

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The recent report of the Commons finance committee contains 145 separate recommendations for this spring’s federal budget. They urge the government to spend more on everything from long-term care to universal pharmacare to a national early learning and child-care system and beyond: on young and old, on education and housing, on cities, on airports, on and on and on.

Recommendation 111 calls on the government to “make investments” in an apparently limitless number of industries, with particular “focus” on “auto, rail, clean water, aerospace, shipbuilding, construction materials, pharmaceuticals [as well as] telecommunications and media.” Have I missed anything? Oh yes: It should also “consider the implementation of a universal basic income program.”

Few of the committee’s recommendations come with even a notional price tag. Neither is there any attempt to estimate the total cost of the lot, still less any indication of how it would all be paid for. But then, why should there be? In the current age of abundance, no choices need be made, nor costs counted. We can have everything we ever wanted, because of – all together now – “historically low interest rates.”

That was the mantra, you’ll recall, in the government’s fall economic statement in November. Governments could, it seems, borrow virtually unlimited amounts – $400-billion this year alone – and yet, thanks to Historically Low Interest Rates, the annual cost of servicing the debt would remain within comfortable limits: just seven cents out of every tax dollar, versus more than 37 cents at its peak in the 1990s.

True, that was because central banks were buying most of it, but what of it? Inflation was flat on its back, and showed no signs of reviving. No inflation, no risk of rising interest rates.

Well, now it’s February and inflation, it seems, is not as dead as all that. The signs are everywhere. Oil prices, having sunk to less than US$20 last spring, are back above US$60. Commodity prices generally are up a third from prepandemic levels. Shortages have begun to emerge for everything from computer chips to steel to batteries. Credit markets, taking notice, have swooned, pushing rates on long-term government bonds up by a percentage point or more.

Is this enough on its own to be alarmed about? No. It was to be expected prices would surge as the pandemic eased: all that pent-up demand and what not. But a one-off price spike is not the same as a sustained increase in inflation.

The massive stimulus packages being prepared in both Canada and the United States, on the other hand, vastly in excess of any conceivable “output gap,” could have more lasting impact. That’s why economists such as former U.S. treasury secretary Lawrence Summers and former IMF chief economist Olivier Blanchard, neither noted as fiscal hawks, have been ringing the alarm. (“This would not be overheating,” Mr. Blanchard tweeted, “it would be starting a fire.”)

The wild card is what happens to inflation expectations. So long as wage bargainers and other price-setters expect inflation to stay subdued, then the classical tradeoff of macroeconomic policy, between unemployment and inflation, might remain relatively benign. Policy makers could go on cutting unemployment without fear of igniting inflation – and tamp down any increase in inflation without a surge in unemployment.

But once inflation becomes embedded in expectations, all that changes. At that point we are essentially into a multiplayer game of chicken. Suppose inflation jumps to, say, 4 per cent. Are policy makers prepared to knock it back down to two, knowing they might thereby plunge the country into a recession? And if they’re not willing to hold the line at two, who’s to say they’d be any more willing to take a stand in defence of four? If you’re a bond buyer, or a wage bargainer, better ask for six, just in case.

Now suppose you’re a policy maker. As inflation expectations rise, you have a choice. You can confound expectations: people expect 6 per cent inflation, but you only deliver two. But that means a sudden, unexpected rise in inflation-adjusted values – real interest rates, real wages, and so on – possibly triggering a recession. Or you can take the easier path, ratify expectations, and put off tackling inflation to another year, and another government.

Only the longer you do so, the worse inflation grows, and the harder it becomes to confront it. That was precisely the vicious circle we got into in the 1970s and 1980s. It took the better part of 20 years and two crunching recessions to bring the Great Inflation to heel, with costs – for the economy, for society, and for government treasuries – we are still reckoning with.

The lesson of history is: Once you’ve got inflation down, never let it get up again. A little inflation tends to become a lot.

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