Wednesday, May 17, 2006

The Cruelest Tax of All

The President signed investor tax cut extenders today, which is a very good thing. Cheaper capital and stronger investment incentives are key themes in the American economic boom.

Unfortunately, inflation is the cruelest tax of all.

Since the capital gains tax remains unindexed for inflation, the effective tax rate on real stock market profits has been gradually rising from 22.5 percent to 28.6 percent, over the past two years, as the chained CPI has increased to 3.2 percent from 1.7 percent.

This means that investors keep $71.40 cents of every hundred-dollar capital gain today, but they kept $77.50 cents two years ago. That comes to an 8 percent disincentive, or drag, on stock market wealth.

All the more reason for the Fed to strengthen the dollar by withdrawing greenbacks from the financial system. Otherwise, the cruel inflation tax will continue to exact a stock market toll.