President Donald Trump is reportedly considering another powerful tool for America’s pro-growth agenda: indexing capital gains taxes for inflation. The proposal, long championed by Larry Kudlow, deserves serious consideration. It would be the equivalent of adding another log to America’s economic-growth fire.
The One Big Beautiful Bill strengthened incentives for businesses to invest, innovate, expand, and hire. Capital-gains indexing would build upon that foundation by encouraging proceeds from successful investments to move into their next productive use.
For Americans, that can mean more investment, greater productivity, better-paying jobs, rising incomes, and stronger communities. For entrepreneurs, it can mean capital reaching the next business or expansion.
When someone sells a business, property, or other investment, capital-gains taxes are generally calculated by subtracting the original purchase price from the sale price. But that calculation does not distinguish between a real increase in value and one caused by inflation.
Consider an entrepreneur who invested $500,000 to build a business and sells it years later for $1 million. The tax code generally treats the $500,000 difference as a capital gain. But if inflation substantially reduced the dollar’s purchasing power, part of that apparent gain is simply the same value expressed in less valuable dollars.
Indexing would adjust the original investment for inflation before determining the taxable gain. The government would still tax the real increase in value. It would stop treating inflation as profit.
The prospect of a large tax bill can encourage owners to hold an asset even when another investment offers greater economic potential. Economists call this the lock-in effect. The Congressional Research Service found that indexing would reduce this distortion, while cautioning that its stand-alone effect on national economic growth would likely be modest.
Capital-gains indexing can also advance Trump’s larger goal of reindustrializing the United States. Reindustrialization will require more than investments by America’s largest corporations. It will require thousands of small and midsize manufacturers to modernize equipment, expand production, strengthen supply chains, and train workers.
For a small manufacturer, access to capital can determine whether it maintains current production or moves into its next stage of growth. New investment can finance advanced machinery, automation, facility expansion, or the capacity needed to compete for a larger contract.
Those investments can increase output and productivity, support higher wages, and create jobs throughout local economies. When a manufacturer expands, it also creates opportunities for suppliers, construction companies, transportation providers, technology firms, and other small businesses.
Indexing can also support small business succession. An entrepreneur can acquire a company from a retiring owner, modernize its operations, and build its next generation. The seller can reinvest the proceeds in another business, support emerging entrepreneurs, or finance a new venture.
This is the growth cycle America should strengthen: investment drives productivity; productivity supports expansion; expansion creates jobs and higher incomes; and successful businesses generate capital that can be invested again.
The Economic Recovery Tax Act of 1981 reduced marginal tax rates, accelerated depreciation, and lowered the maximum tax rate on long-term capital gains to 20%. It also indexed individual income-tax brackets beginning in 1985, preventing inflation alone from pushing families into higher brackets.
Reagan did not enact capital-gains indexing. The Senate approved it in 1982, but it was removed in conference. Treasury proposed indexing again during the Reagan tax-reform effort.
No single tax provision produced the long expansion that began in 1982. The enduring Reagan lesson is that economic policy works best when its major components encourage investment, production, and entrepreneurship, and when it works in the same direction.
Capital-gains indexing should not be reduced to election-year politics. It is a tool for supporting growth by moving more capital into productive investments that expand businesses, increase productivity, create jobs, and raise incomes.
Congress can design indexing responsibly by determining which assets qualify, choosing the inflation measure, establishing an appropriate holding period, and preventing tax avoidance. Enacting the change through legislation would provide the certainty required to influence long-term investment decisions.
Indexing will not produce sustained 3% growth by itself. Neither will permanent expensing, research incentives, permitting reform, energy abundance, or workforce improvements. Together, however, they can create a durable framework that rewards investment throughout the growth cycle and carries its benefits forward through greater productivity, expanding businesses, better jobs, and rising incomes.
AMERICAN FAMILIES HAVEN’T ABANDONED THE AMERICAN DREAM. WASHINGTON HAS
The facts make the case. Indexing can support small businesses, manufacturing, reindustrialization, and sustained growth.
Trump and Congress have an opportunity to work together and enact this important change. Doing so would add another driver of productive investment, greater productivity, better jobs, rising incomes, and long-term American prosperity.
Dan Varroney is an economic growth strategist, founder and CEO of Potomac Core, and author of Rethinking Economic Growth.