Congress is considering legislation to subtract out the inflation portion of capital gains prior to Taxation:
The capital gains tax is currently applied to the difference between the sale price of an asset and its acquisition price, adjusting for any capital improvements, but not for inflation. Because there is no inflation adjustment, for a long-held asset, the capital gains tax is largely an inflation tax. When the government levies a tax on assets that have depreciated in real terms, it is actually confiscating assets, which is a violation of basic principles of fairness.
Yet, I still think that getting rid of the inflation tax is a bad idea. While inflation is a monetary phenomena, I'm wondering if there are certain near crisis situations where an increased inflation rate coupled with the inflation tax may be beneficial. In a deep recession, where both the economy and government revenues are shrinking in real terms, increasing the rate of inflation to keep nominal GDP growth positive may enable a quicker recovery, basically by diluting existing debt, allowing continued government spending without raising income tax rates, and stimulating demand (since investment becomes less desirable in such an environment). In the early years of the Great Depression, this was not done and look what happened. In the 1970s, this was done (unwittingly), and though the stagflation was considered to be very bad thing for the economy, I have a snearking suspicion (unprovable) that the economy needed to go through a restructuring, and that part of the subsequent 25 years of high growth was partially enabled by the 1970s' stagflation. I realize that I'm about the only person on earth to think this, but I never let little things like that bother me.
The best way to keep the inflation tax low is to keep inflation at a manageable level. I think we should keep the inflation tax.