Listening to our politicians talk about increasing capital gains taxes makes one wonder whether these politicians and their economic advisors do not understand modern economics and finance, or whether they just hope that education in these fields is so poor that most people do not understand what is going on.
Modern capital gains taxes are not really capital gains taxes. The value of assets is estimated in dollars, and government—with the help of the U.S. Federal Reserve—keeps reducing the value of the dollar by creating more and more dollars. If the real value of assets remains the same but the value of the dollar goes down 50 percent, when we estimate the value of assets in the new cheaper dollars, it looks like the value of our assets has doubled. For tax purposes, that increase is called a capital gain and taxed accordingly.
The United States stopped the convertibility of the U.S. dollar to a fixed amount of gold during the early 1970s, making it easy for the Fed to print excessive amounts of dollars and devalue them, leading to inflation. The impact of dollar devaluation on the estimated values of assets was larger than most people realize.
The stock market provided a good example of this. The oldest commonly used stock price index, the Dow Jones Industrial Average (DJIA), increased by the same percent as stock prices of the companies included in it (roughly, the leading companies in their industries). Thus, the index tracked capital gains on these stocks. The DJIA increased in value from 838.92 at the end of 1970 to 37,689.54 by the end of 2023. Based on these numbers, the DJIA grew about 7.44 percent per year. However, the price of one ounce of gold grew from $37.38 to $2,062.40 (about 7.86 percent per year) during the same time.
Thus, if the DJIA values were estimated in gold (as they were when the U.S. dollar was a promise for a fixed amount of gold), the DJIA growth rate would be slightly negative, suggesting no positive capital gains. However, people paid capital gain taxes on such investments.
When I did the above calculations about 10 years ago, all the necessary data—such as the DJIA and the Gold Fixing Price in the London Bullion Market, based on U.S. dollars—were available on the website of the St. Louis branch of the Fed (fred.stlouisfed.org). I downloaded the historical data used in the calculations then. The Fed still reports the recent data for the DJIA (https://fred.stlouisfed.org/series/DJIA), but I had to find another source for recent gold prices (https://goldsilver.com/historical-london-fix/). The Fed seems uninterested in reporting such data anymore.
Inflation is bad enough even without adding additional taxes. Those who have dollars or fixed income securities become poorer. Businesses make poorer decisions when inflation-driven prices of their goods mislead them into increasing their production. Everybody is affected by inflation and taxes as they affect economic growth. Moreover, it is harder for the less wealthy to afford the costs of inflation and related taxes. Some people even give up on the idea of becoming financially independent by saving for emergencies and retirement—one could argue that these people are harmed the most.
For the first 20 years of my life, I lived in the Union of Soviet Socialist Republics (USSR) where the government claimed to take care of people. Thus, I am very skeptical when politicians and bureaucrats suggest that our government will take care of us and that we do not need to worry about becoming financially independent. Those who still hope for government help should check the standard of living of an average person in the USSR—or, if one wants a more recent example, the standard of living in Venezuela.
Dr. Dalia Marciukaityte is an associate professor of finance at Illinois State University. She is also a policy advisor for the Heartland Institute.
