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FLORIDA TAX REVIEW 
Volume 10 2010 Number 4  
 

411 
 

 
 

THE COMING(?) INFLATION AND THE INCOME TAX:  
LESSONS FROM THE PAST, LESSONS FOR THE FUTURE 

 
 

by 
 

David Gliksberg* 
 

 
ABSTRACT 

  
The concerns about inflation as a result of the current financial crisis 

and the U.S. budget deficit challenge the social order, including taxation. 
Based on the historical U.S. experience and discourse on this issue, the 
article focuses on the relationships between adjusting the tax system for 
inflation and the general attitude towards adjustment for inflation in the 
social order. The article offers a new insight which is very different from the 
current research. The nominalism/adjustism culture that dominates the social 
order is placed at the center of the analysis. There is “equilibrium” between 
the scope of adjustment in the social order and in the tax regime. Advancing 
adjustment of the tax regime requires that it also be promoted in the general 
social order. This cultural paradigm plays a significant role in the tax 
response to inflation, including the scope and character of that adjustment 
regime. This approach erodes the literature’s conservative approach arguing 
that classical tax policy consideration like cost-benefit analysis is the most 
effective factor on the adjustment issue. The article argues that adopting an 
adjusted tax regime is largely dependent on the existence and extent of a 
general culture towards the concept of “money”: Is the prevailing culture one 
of nominalism or adjustism?  

This paradigm explains the reality in the U.S. in the past with 
regards to adjustment for inflation. The sophisticated American discourse on 
adjusting the income tax regime for inflation, which first took place in the 
late nineteen seventies and early nineteen eighties, was unproductive from 
                                                      

* Satinover Professor of Tax Law, Faculty of Law, Hebrew University. I 
would like to extend my thanks to Ilan Benshalom and Victor Thuronyi for their 
helpful comments on a previous draft. I would also like to thank the Harvard Law 
School and Alvin C. Warren Jr. for their gracious hospitality while I was writing the 
main part of this article. 



412 Florida Tax Review [Vol. 10:4 
 
the start, and was doomed to failure because the U.S. culture of adjustism 
was not sufficiently ripe for justifying or permitting a “legitimate” social 
decision on adjusting the tax regime. The lessons from the past are that 
advancing adjustment of the tax regime requires promoting adjustment of the 
general social order. Adjusting the income tax regime without adjusting the 
general social order would be, culturally, a tough mission and even 
impossible.  
  



2010] The Coming(?) Inflation and the Income Tax 413 
 
INTRODUCTION .......................................................................................... 414 
I. FUNDAMENTAL PRINCIPLES OF ADJUSTING THE INCOME TAX REGIME 

FOR INFLATION ..................................................................................... 417 
A. General ........................................................................................... 417 
B. Comprehensive Adjustment ............................................................ 423 
C. Explicit Partial Adjustment and Implicit Partial Adjustment ......... 425 

II. GENERAL TAX POLICY CONSIDERATIONS .......................................... 427 
A. General ........................................................................................... 427 
B. Cost-Benefit Analysis ..................................................................... 428 
C. The General Culture Paradigm: Nominalism or Adjustism ........... 428 
D. Nominalism as a Stabilizer ............................................................. 438 
E. Tax Collection Considerations ....................................................... 440 
F. Political and Social Considerations ............................................... 441 
G. Inflation Levels and Tax Rates ....................................................... 448 

CONCLUSIONS ............................................................................................ 449 
 
 
 
 

 
 



414 Florida Tax Review [Vol. 10:4 
 

INTRODUCTION 
 

  The concerns of facing inflation under the current economic crisis 
and the tremendous U.S. budget deficit challenge the current social order, 
including taxation. Will the issue of adjusting the income tax regime to 
inflation be on the tax agenda?1 Based on the historical U.S. experience and 
discourse on this issue, the article focuses on the relationships between 
adjusting the tax system for inflation and the general attitude towards 
adjustment for inflation in the social order. Tax adjustment for inflation must 
be examined in the framework of an integrative, cohesive and coherent 
review of nominalism (valorism)\adjustism present in the social order.2 It 
attempts to establish the strategic boundaries of the various inflationary 
adjustment regimes and the means for choosing among them. 
  The issue of adjusting the tax regime to inflation is challenging due 
to its complexity, and that tends to create an imbalance between the attention 
given to the particulars of adjustment for inflation and the concern for 
broader issues such as the general attitude towards adjustment for inflation in 
the social order. A proper balance must be struck between those particulars 
and the broader issues. The tax discourse must therefore adopt a coherent 
approach that attaches proper weight to the role of tax law in society by 
emphasizing the reciprocity between tax law and other components of the 
social order. The fundamental underpinnings of the tax regime cannot be 
examined autonomously, but rather must be viewed as part of the general 
social order reflected in the legal system.   
  Most countries3 either do not adjust for inflation (nominalist 
regimes), or do so only partially.4 Such adjustment may be either explicit or 

                                                      
1. The scholarly literature uses the terms ‘adjustment’ and ‘indexation’ in 

regard to converting nominal-value tax regimes to real-value tax regimes. See, e.g., 
Victor Thuronyi, Tax Law Design & Drafting 434 (Victor Thuronyi ed., Kluwar 
Law International 2000); Reed Shuldiner, Indexing the Tax Code, 48 Tax L. Rev. 
537 (1993); Brookings Inst. Inflation and The Income Tax (Henry J. Aaron ed., 
1976) [hereinafter Inflation and The Income Tax]. This article uses the term 
‘adjustment’ rather than ‘indexation,’ inasmuch as several adjustment regimes do not 
employ indexation but use other means of adjustment.  

2. For historical developments, see, e.g., Keith. S. Rosenn, Law and 
Inflation 57-59 (Univ. of Penn. Press 1982); Eliyahu Hirshberg, The Impact of 
Inflation Law and Inflation, (1982); Eliyahu Hirschberg, The Impact of Inflation and 
Devaluation on Private Legal Obligations (1976); Frederick A. Mann, The Legal 
Aspects of Money, 5th ed. (Oxford Univ. Press 1992); Shirley Renner, Inflation and 
The Enforcement of Contracts (Edward Elgar 1999); Aaron Yoran, The Effect of 
Inflation on Civil and Tax Liability (Springer 1983).   

3. To the best of my knowledge, only nine countries have adopted a 
comprehensive adjustment model: Argentina, Brazil, Chile, Colombia, Israel, 
Mexico, Peru, Romania, and Venezuela. See Thuronyi, supra n. 1, at 447 n.37; Vito 



2010] The Coming(?) Inflation and the Income Tax 415 
 
implicit.5 This article proceeds from the assumption that a tax regime should 
be adjusted for inflation, and the absence of such adjustment results in a 
distorted tax regime.6 The classical approach7 adopts the view that the issue 
of adjustment for inflation should be weighed in accordance with the normal 
tax-policy considerations, i.e., cost-benefit considerations.8 The primary 
benefit is taxation of real income, thus preventing a distortion of distributive 
justice9 and promoting economic efficiency. The cost is the compliance 
costs. The dominant view is that comprehensive adjustment for inflation, 
which is preferable to nominalism or partial adjustment,10 is conceptually 
and technically complex and involves high compliance costs. Thus, in terms 
of a cost-benefit analysis, it should not be adopted despite the inflationary 
damage to the tax regime. As inflation rates rise, the benefit of adjustment 
increases, while compliance costs generally remain fixed. Thus, under the 
classical approach, the tendency toward adjustment will grow as the rate of 
inflation increases. Since the inflation rates in the democratic countries are 
not high, the classical tax discourse involves finding the optimal partial 
adjustment regime as the second best option, due to its relatively low cost 
compared to a comprehensive adjustment. 
    At the core of this article is the erosion or elimination of the 
literature’s conservative approach arguing that classical tax policy 
consideration like cost-benefit analysis is the most effective factor on the 
                                                                                                                             
Tanzi, Inflation and the Personal Income Tax: An International Perspective 
(Cambridge Univ. Press 1980); Keith S. Rosenn, Adjusting Taxation of Business 
Income for Inflation: Lesson from Brazil and Chile, 13 Texas Int’l L.J. 165 (1977-
1978); Int’l Fiscal Ass’n, Adjustments for Tax Purposes in Highly Inflationary 
Economies (Kluwer Law International 1985); Yishai Beer, Taxation Under 
Conditions of Inflation: The Israeli Experience, 5 Tax Notes Int’l 299 (1992); Daniel 
Halperin & Eugene Steuerle, Indexing the Tax System for Inflation, in Uneasy 
Compromise: Problems of a Hybrid Income-Consumption Tax 347 (Aaron et al. 
eds., Brookings Inst. Press 1988). 

4. See Part III C. 
5. See Halperin & Steuerle, supra note 3, 353-57. 
6. See text accompanying note 14 et seq.  
7. See, e.g., the literature cited in notes 1 and 3; Richard A. Musgrave, 

Comments, in Uneasy Compromise: Problems of a Hybrid Income-Consumption Tax 
376 (Aaron et al. eds., Brookings Inst. Press 1988). 

8. In this article cost-benefit considerations include all social costs, unless 
otherwise stated.  

9. See, e.g., Cong. Budget Office, Indexing the Individual Income Tax for 
Inflation, at 5-10 (1980); OECD Comm. on Fiscal Affairs, The Adjustment of 
Personal Income Tax Systems for Inflation, at 19-22 (OECD Publications Center 
1976) [hereinafter The OECD Report]. For example, the effect of non-adjustment for 
capital gains is greater for the middle class than for the wealthy. See Bruce Bartlett, 
Inflation and Capital Gains, 75 Tax Note 1263 (1997). 

10. Id. 



416 Florida Tax Review [Vol. 10:4 
 
adjustment issue. The article argues that adopting an adjusted tax regime is 
largely dependent on the existence and extent of a general social culture of 
adjustment, which I refer to as ‘adjustism’ (the opposite of nominalism). The 
more a society and its economy are characterized by adjustment for inflation 
in non-tax areas,11 the more likely it is that the tax system will also adjust for 
inflation. Adjustisim derives from the way a society relates to the value of 
“money”: is the society committed to nominalism or adjustism?  Is the 
prevailing culture one of nominalism or adjustism?12 According to the 
proposed paradigm, the integration of the tax system into the surrounding 
socio-economic culture includes the adjustment for inflation. In the face of 
substantial change in the socio-economic environment, the tax system will 
not be the first to react due to its complicated and conservative nature, but it 
is not to say that the tax system will be the last to adjust.  
 The general cultural paradigm of adjustment affects the decision of 
whether to adopt a partial adjustment regime or a comprehensive adjustment 
regime. This paradigm explains the reality in the United States with regards 
to adjustment for inflation in general and its tax regime in particular. The 
American discourse on adjusting the income tax regime for inflation, which 
first took place in the late nineteen seventies and early nineteen eighties, was 
unproductive from the start and was doomed to failure because the U.S. 
culture of adjustism was not sufficiently ripe for justifying or permitting a 
“legitimate” social decision on adjusting the tax system for inflation. 
  Part I will present the fundamental principles regarding the 
adjustment of the income tax regime, focusing on the two basic models of 
adjustment for inflation – comprehensive adjustment and partial adjustment – 
and the subcategories of partial adjustment: explicit partial adjustment and 
implicit partial adjustment. This part provides the necessary background for 
Part II, which will review the various considerations that influence the 
transition from a nominalistic model to a model that adjusts for inflation, and 
the scope of that adjustment. At the center of this discussion is the general 
culture paradigm of adjustment for inflation, and the relationship between the 
general culture paradigm and other policy considerations. 
  
  

                                                      
11. For a legal analysis of inflation, see Rosenn, supra note 2; Hirschberg, 

supra note 2; Mann, supra note 2. 
12. Only few areas of the social order are unaffected by inflation. See, e.g., 

Jim Chen, The Price of Macroeconomic Imprecision: How Should the Law Measure 
Inflation? 54 Hastings L.J. 1375, 1376 (2003). 



2010] The Coming(?) Inflation and the Income Tax 417 
 

I. FUNDAMENTAL PRINCIPLES OF ADJUSTING THE INCOME  
TAX REGIME FOR INFLATION 

 
A. General 
 

Inflation erodes the effectiveness of various normative regimes by 
distorting distributive justice13 and economic efficiency.14 This erosion 
continues as long as the legal system employs nominal values of money 
between points in time. When inflation occurs, this nominal nominal 
approach creates a variety of distortions, and many legal regimes are 
rendered ridiculous in the absence of adjustment for inflation.15 
 Inflation undermines the primary goal of the tax system: Collection 
of just and efficient taxes.16 This distortion occurs even at relatively low 
rates of inflation.17 Distributive justice suffers when inflation affects ability 
to pay,18 both in terms of horizontal and vertical justice. It also causes 
substantial harm to the economic effectiveness of the tax system. Inflation 
gives preference to debt over equity due to the deduction of the inflationary 

                                                      
13. For an analysis of the impact of inflation on distributive justice, see, 

e.g., Stanley Fischer, Indexing, Inflation, and Economic Policy 19-27 (MIT Press 
1986). Fischer argues that inflation harms distributive justice because it introduces 
discrimination between creditors and debtors, risk takers and risk seekers, and 
between short-term and long-term contracts, while also exacerbating the inter-
generation issue. Unlike the economic costs of inflation, the social costs of inflation 
have not been explored in depth. See, e.g., Stanley Fischer, Why are Central Banks 
Pursuing Long-Run Price Stability?, in Achieving Price Stability, Federal Reserve 
Bank of Kansas City Symposium Series (1996). 

14. For the economic harm caused by inflation, see, e.g., Stanley Fischer, 
Modern Central Banking, in The Future of Central Banking (Forrest Capie et al. 
eds., 1994); Stanley Fischer, Towards an Understanding of the Costs of Inflation: II, 
in The Cost and Consequences of Inflation (Karl Brunner and Allen H. Meltzer eds., 
1981). 

15. Guido Calabresi, A Common Law for the Age of Statutes 66 (Lawbook 
Exchange 2000).  Calabresi emphasizes that inflation often leads to serious results 
that prevent the achieving of legislative purpose. For example, legislation intended to 
benefit a particular group may end up harming that group.  

16. See, e.g., Richard Goode, Government Finance in Developing Countries 
128-29 (Brookings Inst. Press 1984). 

17. Halperin & Steuerle, supra note 3, at 348. 
18. See, e.g., Martin J. Baily, Inflationary Distortions and Taxes, in 

Inflation and The Income Tax, supra note 1, at 291, 296 et seq.  On this principle and 
critique of it in the framework of the traditional view of tax justice, see, e.g., Liam 
Murphy & Thomas Nagel, The Myth of Ownership: Taxes and Justice 12-39 
(Oxford Univ. Press 2002). 



418 Florida Tax Review [Vol. 10:4 
 
element of debt19 and the choice among different assets will be affected by 
the inflationary effect caused by tax law. Failure to neutralize inflation 
effectively levies an additional tax burden. This burden can be positive or 
negative (constituting a subsidy) and its scope may be influenced by arbitrary 
variables (e.g., the inflation rate, equity v. debt, the length of asset 
possession) that are inappropriate or irrelevant to a desirable tax policy. Such 
arbitrariness harms both distributive justice and economic efficiency. 
Inflation not only adversely affects the accurate measurement of income, but 
also the collection of taxes after tax liability has been established.  
 What suffers from inflation can be analyzed from several 
perspectives. For our analysis, I will use the classic view of the effects of 
inflation on the tax system,20 which identifies three primary normative levels 
that have to be adjusted. Each of the levels erodes the distributive justice and 
efficiency of the tax regime, since each has unjustifiable and inefficient tax 
consequences that change the effective tax burden, as compared to the 
effective tax burden that would apply in an inflation-free world.  
 The first level is the collection lag. Tax liability must be adjusted 
after the occurrence of a tax event. Even if the tax base is entirely adjusted 
for inflation, the tax liability must also be adjusted to the date of payment. In 
the absence of such adjustment the effective tax burden will not coincide 
with what is normatively required. The collection lag applies to two sub-
periods: The period between the occurrence of the tax event and the date the 
taxpayer is required to pay the tax21 and the period between the date the 
taxpayer is required to pay and the date of actual payment.22 The second sub-
period is not inherently connected to tax law. Hence, it must be treated the 
same way that society treats other debts’ collection lag. In the absence of a 
general legal arrangement for adjusting debts for inflation, there is no 
justification for only adjusting tax debts. 
 The second level concerns the effect inflation has on nominal 
elements in the tax system. For example, in the case of income tax, the 
required adjustment comprises, first and foremost, personal exemption, 
                                                      

19. For the difficulty in distinguishing equity capital and debt capital in the 
context of adjustment for inflation, see, e.g., Halperin & Steuerle, supra note 3, at 
366. 

20. See, e.g., Thuronyi, supra note 1, at 435. 
21. The first sub-period is of particular relevance to income tax rather than 

to value added tax. See, e.g., Thuronyi, supra note 1, at 437. 
22. For increasing the collection efficiency, see, e.g., Goode, supra note 16, 

at 132, 225. A substantive reaction to the erosion is the collection tools that operate 
over the course of the taxable period, such as withholding tax and tax advances. 
These vehicles were not originally intended to serve as adjustment mechanisms, but 
rather to increase the effectiveness of collection.  These mechanisms thus serve a 
dual function: collection and adjustment. The latter is of greater importance during 
periods of high inflation. 



2010] The Coming(?) Inflation and the Income Tax 419 
 
standard deduction, earned income credit, and the tax brackets, in order to 
prevent the phenomenon of bracket creep.23 These elements are essential, 
primarily from the distributive justice perspective. Addressing inflation in 
this level is relatively simple, and can be achieved by adjusting nominal 
values to inflation.24 
 The third level deals with the inflation effect on the tax base. This 
level is the one most ‘infected’ by inflationary distortions, and curing it is 
most difficult.25 Inflation potentially affects the tax base of other tax regimes, 
as well, but the income tax regime is the most susceptible.26 The simplest 
explanation of how inflation affects the tax regime is provided by the S.H.S. 
(Schanz-Haig-Simons) model,27 according to which taxable income is 
composed of the addition to wealth between the two end points of the 
measurement period, with the addition of consumption over that period. 
These variables are measured at different times (beginning, end and 
inbetween of the period). Thus, the inflationary reality distorts the accuracy 
of the measurement.28 
                                                      

23. In the United States, the adjustment of these elements began in 1984. 
See IRC §§ 1(f), 63(c)(4), and 151(d)(4); Joel Slemrod & Jon Bakja, Taxing 
Ourselves 238 (MIT Press 1996); Indexing the Individual Income Tax for Inflation, 
supra note 9, at 5; The OECD Report, supra note 9, at 9. For comparative aspects, 
see Goode, supra note 16, at 128, 140. For the political aspects of bracket creep, see 
S. Steinmo, Taxation and Democracy: Swedish, British and American Approaches to 
Financing the Modern State 19 (Yale Univ. Press 1993). It should be noted that not 
all the elements of the U.S. income tax regime were indexed, as for example, the 
Alternative Minimum Tax. See, e.g., Gabriel Aistebaomo, The Individual 
Alternative Minimum Tax and the Intersection of Bush Tax Cuts: A Proposal for 
Permanent Reform, 23 Akron Tax J. 109, 138 (2008); Joint Comm. on Tax’n, 
Present Law and Background Relating to the Individual Alternative Minimum Tax, 
at 110 (Comm. Print 2007). 

24. Slemrod & Bakja, supra note 23, at 28, 237-38; Emil M. Sunley, Jr. & 
Joseph Pechman, Inflation Adjustment for the Individual Income Tax, in Inflation 
and The Income Tax, supra note 1, at 153-54; George Vukelich, The Effect of 
Inflation on Real Tax Rates, 20 Canad. Tax J. 243 (1972). 

25. These three areas form a dynamic process of adjustment. For example, 
if adjustment is adopted in the second area, this adjustment influences the effective 
tax burden, and motivates adjustment of the entire tax system, including the third 
area, based on the argument that from the effective tax point of view, there is no 
substantive distinction between adjusting the second area and adjusting the third 
area. 

26. See Thuronyi, supra note 1, at 440. 
27. For attributing the Haig-Simons model to the German economist 

George von Schanz, see, e.g., Stanley. S. Surrey & Paul. R. McDaniel, Tax 
Expenditures 4 (Harvard Univ. Press 1985). 

28. Robert M. Haig, The Concept of Income – Economic and Legal 
Aspects, in The Federal Income Tax 1, 7 (Robert M. Haig ed., 1921) (reprinted in 



420 Florida Tax Review [Vol. 10:4 
 
              Five fundamental issues arise when adjusting the income tax base:29 
First, the capital gains tax regime imposes tax on nominal capital gain, 
including the inflationary component.30 Such taxation represents the taxation 
of the capital itself,31 rather than taxation of the capital gain.32 Second, 
inflation distorts income and expense in relation to debt.33 Conceptually, the 
inflationary component of nominal interest does not constitute real interest, 
but rather is part of the principal and this component does not create income 
or expense.34 Incorporating the inflationary component distorts the income 
tax regime by erasing the distinction between capital and the return on 

                                                                                                                             
The Am. Econ. Ass’n, Readings in the Economics of Taxation 54 (Richard A. 
Musgrave & Carl S. Shoup eds., Richard D. Irwin 1959); Henry C. Simons, Personal 
Income Taxation: The Definition of Income as a Problem of Fiscal Policy 50 (1938). 

29. Dale Chua, Inflation Adjustment, in Tax Policy Handbook 142 
(Parthasarathi Shome ed., Int’l Monetary Fund 1995). 

30. Thus, for example, between the years 1946 and 1977, there was no real 
capital gain, yet capital gains were taxed. See Robert Eisner, Capital Gains and 
Income: Real Changes in the Value of Capital in the United States, 1946-1977, in 
The Measurement of Capital 447 (Dan Usher ed., Univ. of Chicago Press 1980). The 
proposal to index capital gains was first raised by the US Treasury in Department of 
Treasury, Blueprint for Basic Tax Reform (GPO, Washington D.C: 1977). 

31. See Shuldiner, supra note 1, at 549; Halperin & Steuerle, supra note 3, 
at 352. It should be noted that the longer the asset is held, the smaller the effect of 
taxing the inflationary component of the capital gain, for two reasons: First, the 
longer the said period, the smaller the inflationary component in the overall capital 
gain. Second, the longer the period, the greater the benefit of the tax deferral. 
However, when we are concerned with losses, the longer the asset is held, the greater 
the need for adjustment, due to the same considerations. See Shuldiner, supra note 1, 
at 552-557; Halperin & Steuerle, supra note 3, at 3. 

32. The adjustment of capital gains tax for inflation is strongly tied to the 
 realization requirement and eliminating this requirement by building the tax regime 
on an accrual basis would substantially reduce the need to address adjustment. See 
Halperin & Steuerle, supra note 3, at 379; Shuldiner, supra note 1, at 550-57. This 
article proceeds from the premise of the realization requirement which stands at the 
core of the current income tax regime.  

33. Yoram Margalioth, The Case for Tax Indexation of Debt, 15 Am. J. Tax 
Pol’y 205 (1998). 

34. The same tax treatment that applies to the principal applies to the 
inflationary component of the nominal interest. For analyzing the proposal of an 
arbitrary distinction between the two components, see Halperin & Steuerle, supra 
note 3, at 353-54; Richard A. Musgrave, supra note 3, at 378; Eugene Steuerle, Tax 
arbitrage, Inflation, and the Taxation of Interest Payments and Receipts, 30 Wayne 
L. Rev.  991, 991-1013 (1984). For the effect of inflationary taxation on the interest 
rates, see, e.g., Int’l Monetary Fund, Taxation, Inflation, and Interest Rates (Vito 
Tanzi ed., 1984). 



2010] The Coming(?) Inflation and the Income Tax 421 
 
capital,35 both conceptually and functionally. Such incorporation provides a 
wide space for creating arbitrages and under relatively high inflation rates, 
the nominal income tax regime collapses.36 Third, the institution of 
depreciation is based upon the historical purchase cost of an asset. In a 
period of inflation, the historical cost is of little significance. Fourth, 
evaluating inventory according to its nominal value distorts the measure of 
income by including the inflationary profits.37 Fifth, losses carried forward 
suffer a reduction in real value due to inflation.   
 The article will focus on the third level, i.e., adjustment of the tax 
base which is the most challenging.38 In theory, the issue of adjustment for 
inflation could be rendered entirely superfluous if we were to exchange our 
local coinage for virtual currency that would reflect inflationary changes 
daily (or any other time period chosen), and tax liability would be calculated 
by that virtual currency. Such a system would not require adjustment for 
inflation. Effectively, a “virtual” currency could be “foreign currency,” 
assuming that the change in its exchange rate at any given time (day, month, 
or year) would be identical to the inflationary change over that period.39 This 
method would be equivalent to periodically adjusting the tax base. However, 
a cost-benefit analysis illustrates that this approach is very costly since it is 
based on a daily measurement of price variations.40 Although selecting a 
longer period would lower the cost, benefits would also drop,41 and a trade-

                                                      
35. For negating the distinction between capital gain and interest in a 

broader context, see Joseph Stiglitz, The General Theory of Tax Avoidance, 38 Nat. 
Tax J. 325, 328-29 (1985).  

36. The tax rates on the various categories of capital income are not 
necessarily identical. From distributive justice and efficiency perspectives, this lack 
of uniformity increases the distortion during an inflation period. See Halperin & 
Steuerle, supra note 3, at 352. 

37. This issue can be mitigated to some extent by adopting the LIFO rather 
than the FIFO. For the arbitrary nature of LIFO, see, e.g., Strnad, supra note 15, at 
257-58. 

38. Therefore, when this article addresses an unadjusted income tax regime, 
it does not imply that the first two levels are not adjusted, but only that the tax base 
is unadjusted. Hence, an unadjusted regime can also refer to a regime that adjusts tax 
payments, tax brackets, fixed elements etc., (the first two areas), while the third area 
– the tax base – is unadjusted. 

39. See, e.g., Thuronyi, supra note 1, at 454. 
40. In terms of neutralizing the inflationary effect, the results of this 

approach are identical to those produced by comprehensive adjustment of net worth 
(which will be further examined). However, the latter is far cheaper than a daily, 
weekly or monthly adjustment. See also Thuronyi, supra note 1, at 454-55. 

41. Thus, for example, in the case of income tax regime, the taxpayer would 
be required to file a semi-annual, quarterly or monthly return. The income tax regime 
does not carry out multi-period (multi-year) measurements in order to ascertain the 



422 Florida Tax Review [Vol. 10:4 
 
off would have to be reached.42 The article proceeds from the classical view 
that the purpose of adjustment for inflation is neutralizing the effects of 
inflation so that the effective real tax rate will be unaffected by inflation. In 
other words, the effective tax rate during periods of inflation will be identical 
to the effective tax rates during periods that are inflation-free.43 
 There are two archetypical adjustment regimes: partial adjustment44 
and comprehensive adjustment. Academic literature on adjusting tax systems 
discusses a broad spectrum of adjustment regimes (hereinafter – the 
adjustment spectrum), beginning with non-adjustment – which effectively is 
an adjustment regime for zero inflation rate – through various forms of 
partial adjustment regimes and ending with comprehensive adjustment. The 
end points of the adjustment spectrum are clearly defined: non-adjustment 
and comprehensive adjustment. Between those two points, there are many 
varied models of partial adjustment. A non-adjustment regime is the simplest 
of the existing tax regimes along the spectrum, inasmuch as it ignores 
inflation, and the tax burden is levied in purely nominalistic terms. As we 
move along the adjustment spectrum from non-adjustment to comprehensive 
adjustment, the discussion becomes increasingly complex. 
 One of the basic structural decisions that must be addressed in the 
adjustment discourse is whether adjustment will be performed 
automatically45 or whether an administrative authority will be required to 
exercise discretion. Eroding the automatic adjustment mechanism by 
subordinating it to administrative discretion provides, first and foremost, 
flexibility to react to changing circumstances. In addition, some have viewed 
automatic adjustment as a costly tool because it denies the government 
flexibility in times of inflation crisis.46 On the other hand, discretion can 

                                                                                                                             
average income. In general, income is measured over a period of a taxable year. 
Shortening the taxable period can increase the detrimental effects of a lack of multi-
period measurement, due to the fluctuations among the various periods (which are 
shorter than a tax year). Thus, for example, replacing the classical taxable year with 
a taxable “half-year” will lessen the inflationary gap, but it will also increase the 
distortion derived from the lack of a multi-period measurement in regard to the year 
(which is composed of two semi-annual tax periods). The issue of adjusting Value 
Added Tax is of limited scope for few factors such as the shorter taxable period.   

42. Shortening the periods for measuring the tax base provides an implicit 
partial adjustment. For this adjustment model see Part III C.  

43. For the various objectives of adjusting tax regimes for inflation, see, 
e.g., Shuldiner, supra note 1, at 566-69. 

44. Sometimes referred to as ad hoc adjustment. See Halperin & Steuerle, 
supra note 3, at 347; Thuronyi, supra note 1, at 443. 

45. See, e.g., Edward M. Gramlich, The Economic and Budgetary Effects 
of Indexing the Tax System, in Inflation and the Income Tax, supra note 1, at 271, 
279. 

46. See, e.g., Musgrave, supra note 7, at 379. 



2010] The Coming(?) Inflation and the Income Tax 423 
 
serve improper political interests, and lacks the certainty and stability that 
automatic adjusting provides.47 The less comprehensive and more partial the 
adjustment, the easier it may be to justify subjecting it to administrative 
discretion. 
 
B. Comprehensive Adjustment 
 
  Comprehensive adjustment (CA) for inflation means adjusting all the 
relevant components of the tax regime in order to neutralize the inflationary 
element.48 I will present the basic aspects of CA, inasmuch as it is important 
for the appraisal of the merits of the central argument against adopting a CA, 
according to which such a regime is overly complex and, therefore, 
unjustifiable. 
  The classical approach to CA is that of net worth,49 which focuses on 
the opening and closing balance, including all assets and liabilities, the 
changes (increase/decrease) in equity capital over the course of the year, and 
income and expenses that are not recognized for income tax purposes. CA is 
comprised of many issues.50 Accounting is of cardinal importance in a CA,51 
since it is entirely based on balance sheet values and general accounting 
principles as reflected in financial reports.52 Thus this adjustment regime 
transfers the tax discourse on adjustment for inflation from a classical legal 
arena to an accounting arena, which bears significant consequences.53 

                                                      
47. Denying discretion in an adjustment regime is consistent with a general 

tax policy that views the exercise of discretion in the tax regime to be undesirable 
except in extraordinary circumstances. 

48. See Thuronyi, supra note 1, at 446; Arnold C. Harberger, Comments, in 
Uneasy Compromise:  Problems of a Hybrid Income-Consumption Tax 381, table 3 
(Aaron et al. eds., Brookings Inst. Press 1988). Some countries have adopted 
significant adjustment regimes that are not CA regimes due to the argument of 
complexity. However, these achieve similar results, See, e.g., Francisco Gil-Dias & 
Wayne Thirsk, Mexico’s Protracted Tax Reform, in Tax Reform in Developing 
Countries 287, 304-09 (Wayne Thirsk ed., Oxford Univ. Press 1998).  

49. For a more detailed explanation of the net worth method, see Thuronyi, 
supra note 1, at 446. 

50. For example, what is the status of foreign currency in the adjustment 
regime? See, e.g., Herberger, supra note 60, at 383; R.J. Vann & D.A. Dixon, 
Measuring Income under Inflation 70-71 (1990); Thuronyi, supra note 1, at 453, 460. 

51. See, e.g., Thuronyi, supra note 1, at 453. 
52. Double-entry bookkeeping is a basic precondition for introducing a CA 

regime that is based upon financial records. 
53. Transferring a significant part of the tax discourse from the legal arena 

to the accounting arena bears substantial implications in three spheres: in legal 
education; in the participants in the tax discourse (particularly in practice); and in 
designing the development of the tax discourse. The tax law education must pay 



424 Florida Tax Review [Vol. 10:4 
 
Grounding tax adjustment in accounting theory requires a suitable foundation 
of appropriate enforceable accounting standards.54 Adjustment in a CA 
regime, like the net-worth method, and an explicit partial adjustment 
regime,55 are generally achieved through indexing to the CPI,56 by 
measuring the change in CPI over the course of the current tax year.57 
  There are two alternatives for transitioning to a CA regime. The first 
is the “extreme” alternative, transitioning from a non-adjustment regime 
directly to a CA regime with no intermediate steps of implicit or explicit 
partial adjustment.58 The second alternative is that of gradual transitioning; 
going step by step through the adjustment components without jumping 
directly from a non-adjustment regime to a CA regime. The NW method is 
not the product of a process by which an additional adjustment component is 
added to a pre-existing partial-adjustment regime in reaction to growing 
inflation, so that at the end of the process, the regime evolves into a CA 
regime. Rather, the NW method facilitates a direct transition from a non-
adjustment regime to a CA regime without intermediate steps.59  

                                                                                                                             
increased attention to the role of accounting. The participants in the tax discourse 
also change as a greater role is given to accountants as opposed to lawyers. 
Increasing accounting education and the role of accountants also affects the way tax 
law develops. One can expect erosion in the status of general legal insights, together 
with an increase in the importance of accounting insights. Moreover, one can expect 
a decrease in the scope of dialectic discourse in the tax law discourse, which stems 
from the substantial dialectical character of the legal education – and which is seen 
as one of the pinnacles of legal culture – in comparison to the relatively limited 
dialectic discourse in accounting thought. 

54. A proper comparative study of adjustment regimes must also consider 
the level of the accounting infrastructure in the various countries, due to its 
importance in a CA regime. 

55. For the explicit partial adjustment see Part III C. 
56. For a discussion of the appropriate index for adjusting tax regimes to 

inflation, see Indexing the Individual Income Tax for Inflation, supra note 9, at 30-
34; OECD Report, supra note 9, at 27-30. For a discussion of this issue in regard to 
the general law, see, e.g., Rosenn, supra note 2, at 27-30; Chen, supra note 12, at 
1403-29. For a comparative analysis, see supra note 3, at 30. 

57. The method measures the change in CPI over the course of the current 
tax year and not over the course of the previous tax year, since there is no 
justification for indexing adjustment using the change in the previous year. An 
identical position must be taken in regard to the elements comprising the second 
level affected by inflation, i.e., tax brackets.  

58. For implicit partial adjustment, see Part III C. 
59. Following a decision to adopt CA, several issues, generally of 

secondary importance, arise. If the income tax regime operated on an accrual basis, 
switching to an indexing system is not particularly complex. However, since the 
current classic income tax regime uses the realization requirement, a decision has to 
be made as to the timing of indexation. Should it be continuous, or performed only 



2010] The Coming(?) Inflation and the Income Tax 425 
 
C. Explicit Partial Adjustment and Implicit Partial Adjustment 

 
  Partial adjustment can be achieved using one of two models: explicit 
partial adjustment (EPA) and implicit partial adjustment (IPA).60 The 
difference is that EPA relies on indexation for the purpose of adjustment, but 
not comprehensively, whereas IPA uses other tools in order to neutralize the 
effects of inflation. The extent of EPA includes three types: The first type 
applies partial indexation of some of the elements of economic activity. For 
example, the partial indexation of some capital gains, so that capital gain tax 
will not be entirely applied to inflation, but only to part, in accordance with 
the scope of indexation. The second type includes full indexation of some of 
the elements of economic activity. For example, full indexation will apply 
only to capital assets so that no capital gain tax will be levied on its 
inflationary component. The last type applies partial indexing of all the 
elements of economic activity (e.g., adoption of the NW comprehensive 
adjustment regime and using only partial indexation instead of full 
indexation). These patterns of EPA include certain arbitrariness in the rate of 
indexation or scope of economic elements indexed. It is hard to determine 
whether the arbitrariness expressed by a partial rate of indexation is greater 
than that expressed in a partial scope of the indexed economic activities, or 
vice versa.61 It should be noted that in terms of compliance costs, there is no 
difference, regarding the indexation of all components of economic activity 
between 100% indexation and partial indexation.  
  The inherent arbitrariness of the EPA, based on the scope of the 
adjustment’s partialness creates infringing affects on distributive justice and 
economic efficiency.62 However, there are additional aspects which make the 
analysis more complicated. For example, macro-economic considerations of 
an anti-inflation policy63 argue for reducing the scope of adjustment for 
inflation as part of the battle against inflation. Granting significant weight to 
this policy leads to adjustment models that reduce adjustment to a minimum 
and diminish the use of indexation. Such a policy often prefers employing 
implicit adjustment methods in order to “hide” adjustment and remove it 
                                                                                                                             
upon realization? The common approach is that capital assets are adjusted upon 
realization under a CA regime. See, e.g., Halperin & Steuerle, supra note 3, at 363. 

60. See Halperin & Steuerle, supra note 3, at 347. 
61. Sometimes it is justified to limit the scope of assets subject to 

indexation for a variety of reasons, primarily that of compliance costs. 
62. See, e.g., Goode, supra note 16, at 133. Thus, for example, indexing 

only capital gains creates distortions. See, e.g., Slemrod & Bakja, supra note 23, at 
328. The distortions in partial adjustment create new areas for tax planning and tax 
arbitrage. See, e.g., Charles E. McLure, Jr., Demographic Shark in the Fiscal Water, 
in Tax Policy in the Twentieth-First Century 33, 43 (Herbert Stein ed., Jon Wiley & 
Sons 1988). 

63. See Part IV D. 



426 Florida Tax Review [Vol. 10:4 
 
from the public agenda. Granting significant weight to political 
considerations64 that support a tax policy utilizing adjustment, as a means for 
granting tax benefits, will lead to the scope of indexation being dictated by 
the desirable scope of the benefit, and by the areas of economic activity that 
the tax policy seeks to promote. 
  IPA is an adjustment model that does not use indexation at all, but 
rather uses other tools as a proxy for indexation. IPA is also characterized by 
an element of arbitrariness, in the sense that its partial nature infringes 
distributive justice and economic efficiency.65 The consequences of the 
arbitrariness of EPA are all the more applicable to IPA.66 In terms of the 
desirable tax policy, even if there are considerations that support partial, 
rather than comprehensive adjustment, EPA is preferable to IPA. Like any 
implicit normative regime, an IPA regime lacks transparency, and is more 
susceptible to arbitrariness in comparison to an EPA regime. In terms of 
achieving the goal of neutralizing the inflationary element, IPA is inferior 
not only to CA, but also to EPA.67  
  IPA can be achieved by various, and at times odd, means including, 
for example, reduced capital gain tax burdens,68 accelerated depreciation,69 
reduced tax on dividends,70 adopting the LIFO method for inventory,71 and 
indexation to the exchange rate of a foreign currency that is of particular 
importance for the local market. IPA can also be “hidden” in the tax 
treatment of the interest expense, by imposing arbitrary limitations on the 
deductibility of the expense, while completely ignoring the actual rate of 

                                                      
64  . See Part IV F. 
65. Thuronyi, supra note 1, at 443-45; Shuldiner, supra note 1, at 563-66. 
66. On the distortions of a lower capital gains rate as a mean for IPA, see 

Martin Feldstein & Joel Slemrod, Inflation and the Excess Taxation of Capital Gains 
on Corporate Stock, 31 Nat. Tax J. 107 (1978). 

67. See Halperin & Steuerle, supra note 3, at 348. 
68. See Shuldiner, supra note 1, at 563-64; Halperin & Steuerle, supra note 

3, at 353-55; Joint Comm. on Tax’n, General Explanation of the Revenue Act of 
1978, at 252 (United States Printing Office, 1979). For a discussion of whether 
reduced capital gain tax burden constitutes partial adjustment, see Musgrave, supra 
note 7, at 379; Walter J. Blum, A Handy Summary of the Capital Gains Arguments, 
35 Taxes 247 (1957); Noel B. Cunningham & Deborah H. Schenk, The Case for a 
Capital Gains Preference, 48 Tax L. Rev. 319 (1993); Alvin C. Warren, Jr., The 
Individual Income Tax, in The Promise of Tax Reform 37, 54-55 (Joseph A. 
Peachman ed., Prentice Hall 1985). 

69. See Halperin & Steuerle, supra note 3, at 355; David F. Bradford, 
Untangling the Income Tax 52-53 (Harvard Univ. Press 1986).  

70. See Halperin & Steuerle, supra note 3, at 356; Shuldiner, supra note 1, 
at 569-74. 

71. See Shuldiner, supra note 1, at 613-617; Halperin & Steuerle, supra note 
3, at 356; Strnad, supra note 15, at 258. 



2010] The Coming(?) Inflation and the Income Tax 427 
 
inflation.72 The same is applying on interest income, e.g., by recognizing 
only part of interest income as taxable income, or by applying a reduced tax 
rate to a nominal interest income. The realization requirement may also 
constitute IPA, inasmuch as the effective tax liability that stems from 
nominal measurement, is set off, partially or fully, by the tax benefit inherent 
to tax deferrals.73 It should be emphasized that there are tax arrangements 
that inherently create IPA, although it is not their original function or 
purpose, and, therefore, they do not require adjustment for inflation. Setting 
off financial expenses against financial income makes an adjustment of these 
tax items. This is also the case with tax-exempt income, such as capital 
gains74 or interest income produced by tax-exempt organizations.75 
Shortening the taxable period of the tax base is also a technique for achieving 
IPA.76 
 

II. GENERAL TAX POLICY CONSIDERATIONS  
 

A. General 
 

 What are the considerations in choosing among NA, EPA, IPA and 
CA? The cornerstone for this analysis discussion is that CA is preferable to 
EPA or IPA, or NA, inasmuch as CA completely neutralizes the inflationary 
component and therefore increases distributive justice and economic 
efficiency.77 In other words, inflation’s substantive effect on the central goal 
of the tax system – just and efficient collection of just and efficient taxes – 
lessens as adjustment increases, and adopting CA completely eliminates that 
effect.78 Inflation rates and tax rates79 also appear to exert an influence over 
the choice of adjustment regime. The higher the inflation rate, the greater the 
tendency to increase the adjustment component in the tax regime. Tax rates 
                                                      

72. See Halperin & Steuerle, supra note 3, at 368. The partial method 
creates difficulties for financial institutions. See Halperin & Steuerle, supra note 3, at 
369-70. 

73. For a critique of this model of IPA, see, e.g., Strnad, supra note 15, at 
252. 

74. For example, the tax exemption of capital gains due to the “step-up in 
basis” doctrine applying on death. 

75. See Halperin & Steuerle, supra note 3, at 353; See also note 11.  
76. See also text accompanying note 25 et seq.  
77. See Halperin & Steuerle, supra note 3, at 372. 
78. When inflation is not steady but exists at a fluctuating rate, CA is 

particularly preferable in terms of the neutrality of the tax system. See Mark Perlis, 
Comments, in Uneasy Compromise:  Problems of a Hybrid Income-Consumption 
Tax 373 (Aaron et al. eds., Brookings Inst. Press 1988). 

79. See, e.g., Halperin & Steuerle, supra note 3, at 349. 



428 Florida Tax Review [Vol. 10:4 
 
operate in a similar manner. The higher the tax rates, the greater the tendency 
to increase the scope of adjustment (although this variable exerts less 
influence than the inflation rate variable). Nevertheless, I argue that the 
effect of these two variables must be considered in the broader context of the 
various tax policy considerations, analyzed below. 
 Under an extreme level of inflation, the inflation rate will have 
greater, if not decisive, influence. In an environment of triple-digit inflation, 
for example, we may expect the tax system to introduce a CA regime. In 
contrast, at a very low inflation rate we may reasonably expect the tax 
system to opt for non-adjustment or “soft” partial adjustment. However, we 
should bear in mind that the discussion of the appropriate adjustment regime 
does not, in general, address inflation rates at the extreme ends of the 
spectrum, but rather “moderate” inflation rates. The variables of inflation 
rate and tax rate are also built into the various tax policy considerations that 
will be addressed below.  

 
B. Cost-Benefit Analysis 

 
 The cost-benefit analysis examines the cost of adopting an 
adjustment regime, of one model or another, compared to the benefit it 
provides. Among the social benefits sought are distributive justice and 
economic efficiency of the tax regime. The more comprehensive the 
adjustment regime, the more successful it will be at attaining these goals. 
The same is true for the choice between IPA and EPA. Generally speaking, 
the more explicit the adjustment, the more just and efficient it will be.80  
 Opposite the benefits stand the compliance costs,81 which can be 
divided into two groups: First, the initial costs of introducing the 
comprehensive or partial adjustment to the tax administration and the 
taxpayers. These costs are fixed. The second group comprises the variable 

                                                      
80. See the discussion regarding the weaknesses of an implicit adjustment 

regime which are reflected in the capital gain tax regime through reduced capital 
gain tax rates. Shuldiner, supra note 1, at 563-64. 

81. See, e.g., Indexing the Individual Income Tax for Inflation, supra note 
9, at 43. This analysis considers the difficulties in adjusting fixed amounts (the 
second level). Of course, indexing the tax basis creates more complexity and 
compliance costs. See also The Adjustment of Personal Income Tax Systems for 
Inflation, supra note 9, at 12 (recommending retaining the nominal adjustment 
regime in the case of, for example, a low inflation rate or when revenue from income 
tax represents a small part of the budget. The reason for this is cost-benefit 
considerations). The compliance costs also include the difficulty in enforcement that 
derives from non-adjustment of criminal penalties in the tax law. For this issue see 
Report to the Comm. on Finance, Tax compliance:  Inflation Has Significantly 
Decreased the Real Value of Some Penalties (United States Accountability Office 
2007). 



2010] The Coming(?) Inflation and the Income Tax 429 
 
annual costs of operating and maintaining the adjustment regime. The costs 
of adopting and operating a comprehensive adjustment regime are higher 
than those of EPA,82 and certainly higher than those of IPA.83 The classical 
discourse on adjustment for inflation employs arguments regarding the 
complexity of adjustment regimes, reflected on the compliance costs side, in 
order to reject or adopt them; this is particularly so in regard to CA.84 
 
C. The General Culture Paradigm: Nominalism or Adjustism 

 
The most influential factor affecting adjustment for inflation of a tax 

system is the general cultural of adjustment, in which adjustment for 
inflation in the tax arena is but one element of a broader cultural 
phenomenon referred to in this article as “the general culture of adjustment 
for inflation.” In other words: What is the cultural character of the social 
order: A culture of adjustism or a culture of nominalism?  
 Addressing adjustment of the tax regime divorced from the other 
elements of social order is mistaken and undesirable. Effort should be made 
to match the scope of adjustment of the tax regime to a society’s general 
culture of adjustment for inflation. The phenomenon of inflation affect a 
substantial fraction of human activity and it greatly influences the entire 
social order, and not just taxes. The extent of a tax regime’s adjustment, 
whether comprehensive or partial, should be set up in accordance with the 
general culture of adjustment as reflected in the social order. The tax 
system’s approach to inflation must be consistent with the way that society 
contends with inflation in general. Focusing exclusively on the issue of 
adjusting the tax system for inflation, while ignoring or discounting the issue 
of adjustment in other branches of the social order, creates an internal 
imbalance in the social order. This imbalance is created because risk 

                                                      
82. From the compliance cost perspective, it is irrational to support the 

introduction of explicit partial adjustment that includes the entire economic activity, 
but adopts partial indexation. There are generally no marginal compliance costs in 
transferring from less than 100% indexation to 100% indexation. 

83. Implicit adjustment is generally of an arbitrary nature, so the 
compliance costs involved tend to be relatively low compared to the scope of such 
costs in an explicit adjustment regime.  

84. See, e.g., Slemrod & Bakja, supra note 23, at 35. The complexity 
argument has also been employed to reject partial adjustment. Thus, for example, the 
rejection of the recommendation for partial-adjustment by full indexing of capital 
gains was based upon complexity, along with the argument of tax arbitrage, see, e.g., 
Bartlett, supra note 9, at 16-17. It should be emphasized that, often, among the costs 
of maintaining a nominal regime is the harm to the tax system as a result of the 
intensive preoccupation with the issue of whether or not to adjust for inflation. 
Focusing on this issue may deviate attention from other tax issues. Introducing 
adjustment into the tax regime “frees” the society to address the other tax issues.  



430 Florida Tax Review [Vol. 10:4 
 
management’s policy towards the risks of inflation in the tax arena will differ 
from the risk management’s policy towards inflation in other areas of the 
social order.85 Introducing an adjustment regime only in the tax arena shows 
that society is unwilling to expose itself to inflationary risks in regard to tax, 
while it tolerates leaving other social components open to inflationary risk. 
 The proposed paradigm reflects a broader approach according to 
which the tax discourse should not be viewed as an autonomous cultural 
discipline that is separate from the general discourse of the social order as a 
whole, which captures society’s dominant cultural attitudes.86 The tax system 
should not be analyzed independently of the general social order regarding 
the cultural issue of nominalism or adjustism. Adjustment for inflation is 
social, legal, economic and political insight purposed to cope with the 
phenomenon of inflation. In general, every social institution must attain 
normative, legal or social recognition in the social order before it is 
recognized by the tax system, and this approach has to apply on the 
adjustment for inflation as a social institution as well. The tax regime, in 
general, is a normative system that “hovers above” human activity, gathers 
“select” elements (“tax events”), and taxes them. In fulfilling its role, the tax 
regime develops a dialogue with that human activity in terms of language 
(concepts, etc.) and discourse that derives from its legal institutions. This is 
the cornerstone of any analysis of desirable tax policy, and it changes only if 
there are weighty arguments that require deviation.  
 The social order conducts a broad and ongoing, sometimes painful, 
dialogue with the phenomenon of inflation. One of the important variables in 
this dialogue is the institution of adjustment for inflation. This institution is 
not unique to tax regimes, but is both relevant and necessary to every field of 
law. If a society has a culture of adjustism, that culture will be reflected 
across the entire spectrum of the social order. Normative recognition of the 
institution of adjusting for inflation must, first and foremost, find expression 
in the social order as a whole and not in its tax regimes alone. Tax regime 
recognition of the adjustment institution will not precede its general 
acceptance of the social order. Is it conceivable, for example, that changes in 
family structure – like the “new family” – will be recognized by the tax 
regime before first achieving recognition in the social order, i.e., in family 
law? I have chosen an example from the family arena in order to emphasize 
that the difference between a nominalistic perspective and an adjusted 
perspective is no different in our context than the said change in the context 
of family law. One cannot a priori discount the possibility of circumstances 

                                                      
85. See, e.g., Chen, supra note 12, at 1430. 
86. Thus, for example, the issue of fairness in the tax arena should be 

addressed from a broader perspective, so that it focuses not merely on tax fairness, 
but on social fairness. See Liam Murphy & Thomas Nagel, supra note 18, at 173. 
 



2010] The Coming(?) Inflation and the Income Tax 431 
 
that might lead to incoherence between the social order and the tax regime, 
but such a situation would be exceptional. The adjustment for inflation 
cannot be categorized as such an exception. 
 Introducing a CA regime into a tax system requires the existence of a 
broad culture of adjustism, founded upon a valoristic perspective at the 
various levels of the social order, particularly the economic level. Thus, it 
would be unreasonable that the concept of “profit,” in the income tax regime, 
will be based upon real values (adjustism), while, for example, the same 
concept will be based upon nominalistic values in the corporate law. It would 
not be undesirable to adjust the tax system for inflation, while accounting 
practice, for example, remains unadjusted. A culture of adjustment for 
inflation in the economic sphere means that the economic and commercial 
discourse – not just in the tax arena – be conducted in real terms. Hence, for 
example, a firm’s profitability will be established in real terms, and 
investment strategies will be based upon a real analysis. The measurement of 
taxable income (“tax accounting”) may differ from economic or financial 
accounting measurements. Such differences derive, primarily, from tax-
policy aspects according to which income tax law must deviate from 
accounting or economic measurement practices in appropriate circumstances. 
But it would be difficult to present tax policy considerations that would 
justify a substantive difference among these disciplines in regard to adjusting 
for inflation. Moreover, inasmuch as CA regime is based upon accounting, it 
would be unreasonable to adjust the tax system for inflation while leaving 
accounting practices unadjusted. 
 To put it differently, the inflationary phenomenon presents a 
challenge to a broad cross section of the social order regarding the 
adjustment.87 The general culture of adjusting to inflation is developed 
through the contending with this challenge, and an adjustment means thus 
enter into various areas of the social order. The adjustment culture contains a 
wide variety of adjustment mechanisms and the issue of adjusting the tax 
regime for inflation does not stray from the general discourse, in the sense 
that adopting a regime for adjusting the tax system for inflation cannot be 
described as audacious, extraordinary, too complex or “strange” to the 
general public discourse. 
 Adjustment for inflation is not an exclusively technical issue of 
computations, so that the discussion is limited to technical issues. It is not 
just an economic or accounting technique, as one might imagine from 
looking at the classical tax literature. Adjustment of the tax system is an 
inseparable component of an economic, social and political culture that 
adopted the fundamental insight regarding the meaning of money. The 
adjustment insight denies a nominalist approach to money based on nominal 

                                                      
87. See, e.g., OECD Report, supra note 9. 



432 Florida Tax Review [Vol. 10:4 
 
terms and prefers a valoristic system that focuses on the value of money in 
terms of purchasing power.  
 Converting nominalist values with valoristic values as a culture 
involves far-reaching consequences for the social order, of which the tax 
system is not the primary focus. When a society faces significant inflation 
and its democratic structure and social and economic institutions are 
preserved and continue to function, it is a reflection of the existence of the 
culture of adjustism.88 In the absence of such a culture, the foundations of the 
economic and social structure will be damaged, perhaps beyond repair, as a 
result of inflation’s effects on distributive justice and economic efficiency.89 
The proposed paradigm is not based solely on a coherent normative or 
doctrinal approach, but also and mainly on distributive justice and utilitarian 
considerations. Thus, for example, as the number of non-tax adjustment 
regimes increases, the compliance costs associated with adopting and 
maintaining adjustment regimes for tax will be decreased.   
 This paradigm does not argue that the tax regime must “wait” until 
all other components of the social order adjust for inflation. The tax regime 
requires the social order’s substantive recognition of adjustment, and this 
usually comes about as a result of its absorption of a critical mass of non-tax 
adjustment arrangements in the social order. This critical mass provides the 
platform for the adoption of an adjustment arrangement in the tax arena. 
Generally speaking, the tax regime reacts to social and economic changes, 
but does not initiate them. It is an inseparable part of the legal system, which, 
as a rule, responds to social change. Not only will the tax regime not lead the 
way, it will usually lag behind other institutions, because it tends to be one of 
the more conservative branches of the social order.90 Therefore, the tax 
discourse will not address the issue of adjustment immediately upon the 
onset of inflation, but will require an “introductory” period for the 
development of a public discourse on adopting strategies for adjustment for 
inflation in the various branches of social order. A similar process will take 
                                                      

88. On the constitutional implications of adjustment for inflation, see, e.g., 
Chen, supra note 12, at 1388-95; Fred Wertheimer & Susan Weiss Manes, Campaign 
Finance Reform: A key to Restoring the Health of Our Democracy, 94 Colum. L. 
Rev. 1126, 1142 (1994): Rosenn, supra note 1 (analyzing the effect of inflation on 
the various branches of law); United States v. Soderna, 82 F.3d 1370 (7th Cir. 1996).    

89. On the political economics of inflation, see, e.g., The Political Economy 
of Inflation, (Fred Hirsh & John Goldthorpe eds., Harvard Univ. Press 1978). 

90. There are several reasons for this. The tax system is technically 
complex, cumbersome and conservative in the sense that it does not take risks and 
demands a relatively high degree of certainty of success; The tax system often serves 
as an arena for political grappling in regard to political approaches of considerable 
economic and social importance that are ultimately decided through a long process. 
Lastly, there are often powerful elements of society that support preserving the status 
quo. 



2010] The Coming(?) Inflation and the Income Tax 433 
 
place when the rate of inflation decreases, and the social agenda addresses 
the issue of rescinding adjustment regimes. Here, too, the tax regime will 
respond only after the crystallization of a culture of nominalism in the 
primary levels of the social order. This characteristic of the tax system means 
that it will neither be the first to adopt nor the first to repeal adjustment 
mechanisms. 
 This approach clarifies the United States environment regarding 
adjustment for inflation, including the tax regime.91 The American discourse 
on adjusting the income tax regime for inflation, which first took place in the 
late nineteen seventies and early nineteen eighties, was unproductive from 
the start, and was doomed to failure because the U.S. culture of adjustism 
was not sufficiently ripe for justifying or permitting a “legitimate” social 
decision on adjusting the tax system for inflation. It would have been entirely 
unreasonable to expect the tax system to adopt adjustment regime when the 
American social order did not comprise the requisite normative adjustment 
infrastructure within which tax adjustment could develop. There was little 
academic writing on adjusting the social order for inflation of its non-tax 
components, despite the impact of inflation on the American economy and 
society.92 American legal discourse did not perceive the issue of adjustment 
for inflation to be the kind of fundamental cultural issue that would warrant 
in-depth theoretical research from a broad perspective. This discourse 
reflected a deeply rooted and pure nominalistic culture. 
 Although the American theoretical tax research laid the appropriate 
groundwork for adopting an adjustment regime,93 that groundwork did not 
achieve statutory expression. Political discussions highlighted the complexity 
behind adjustism in order to reject its adoption.94 The complexity argument 

                                                      
91. See, e.g., Advisory Comm. on Intergovernmental Relations, Inflation 

and Federal and State Income Taxes: A Commission Report (1976). 
92. Chen, supra note 12, at 1378-79. 
93. Differences in adjustment culture are also reflected in attitudes towards 

changes in the monetary currency itself. Thus, for example, in regard to replacing 
bills with coins, which reflects the diminished importance of the sum formerly 
represented by the bill now represented by the coin, a country with a pure culture of 
nominalism will be more resistant to changing its currency than a country with a 
culture of adjustism. Despite the aggregate inflation in the U.S. over the years, the 
currency has not been replaced, and, for a very long time, there was no substantial 
attempt to exchange bills for coins. The recent move of introducing a one-dollar coin 
alongside the dollar bill does not seem to have been met with success. In this issue, 
nominalism is reflected in symbolic and psychological manifestations that ascribe 
significant importance to the status quo. 

94. In 1984, the U.S. Treasury recommended an adjustment regime based 
on indexing the tax system, but the recommendation failed to garner support, 
primarily due to the complexity argument. See Treasury Dep’t, Tax Reform for 
Fairness Simplicity and Economic Growth, at 97 (1984); David A. Weisbach, The 



434 Florida Tax Review [Vol. 10:4 
 
was largely rhetorical, since the primary reason for rejecting adjustment for 
inflation was the pervasive nominalistic culture of the American society. 
While there are some isolated instances of adjustment for inflation, they are 
inconsequential compared to the overall nominalistic approach, and do not 
affect the general nominal character of the American culture.95 Therefore, it 
is reasonable to predict that even if the rate of inflation were to rise, it is 
doubtful that the tax system will adopt CA or even EPA regime in the 
absence of parallel developments in other levels of the social order. The 
prevailing American culture of nominalism leaves little room for any kind of 
adjustment for inflation other than IPA.96  

The foregoing leads to the conclusion that there must be general 
equilibrium in the overall culture of adjustism97 between the social order as a 
whole and in the tax regime. This equilibrium is twofold. First, it would be 
hard to justify an economic, social and legal system characterized by 
adjustment regimes in the central levels of the social order, but lacking a 
parallel adjustment regime for its tax regime. Second, it would be hard to 
justify the opposite situation of adjustment of the tax regime when such 
adjustment is lacking in other central levels of the social order. This is true 
particularly in the case of CA regime. The upshot is that increasing the level 
of adjustment for inflation in the other levels of the social order is crucial for 
promoting the adjustment of the tax regime, especially in regard to CA 

                                                                                                                             
(Non) Taxation of Risk, 58 Tax L. Rev. 1, 13-14 (2004); Slemrod & Bakja, supra 
note 31, at 238; David F. Bradford and the U.S. Treasury Tax Policy Staff, 
Blueprints for Basic Tax Reform 75 (2nd Revised ed., 1984); Henry J. Aaron, 
Inflation and The Income Tax: An Introduction, in Inflation and The Income Tax, 
supra note 1, at 29.  

95. See, e.g., David Leonhardt, Some Rain On the Parade On Wall St., N.Y. 
Times, July 18, 2007, Business Day, at C1; Calabresi, supra note 15, at 66-68, tried 
to explain America’s nominalistic laws, but with only limited success. In my 
opinion, the answer lies in the general nominalistic culture that pervades the 
American experience as a whole, and that is reflected in the social order and legal 
discourse. For a detailed description of the depth of the nominalism in the American 
laws, see Chen, supra note 12.  

96. For example, reduced capital gain tax rate, based on the perspective that 
it is an IPA regime.  

97. Two types of equilibrium must be distinguished in regard to adjustment 
for inflation. The first is “external” equilibrium that characterizes the various 
elements of the social order – i.e., if and to what extent the social order has adopted a 
culture of adjustism/nominalism. The second is the “internal” tax equilibrium that 
treats of the equilibrium among the various elements of the tax regime itself. For 
example, adjustment for inflation only of capital assets without a parallel adjustment 
of liabilities creates an imbalance. There is a certain relationship between the two, in 
the sense that the greater the general external equilibrium, the greater the tax internal 
equilibrium. 



2010] The Coming(?) Inflation and the Income Tax 435 
 
regime. Only an increased culture of adjustism in the social order will enable 
the appropriate, parallel adjustment for inflation of the tax regime. 
 It appears that the deciding factor behind adjusting for inflation is the 
existence of a general culture of adjustment to inflation. This view differs 
from the classical approach that imputes far greater importance to cost-
benefit considerations, in particular with CA regime. Complexity, which has 
served as a primary defense against the adoption of adjustment regimes, is a 
concept found in the cost-benefit lexicon. The classical approach98 utterly 
disregards the general culture of adjustment for inflation. It does not address 
the relationship between the scope of the general adjustment culture and the 
extent to which the tax regime adjusts. Thus, the tax discourse on the issue of 
adjustment does not see itself as part of the general discourse on adjustment, 
whether in theory or in politics, and addresses adjustment from a technical 
perspective. 
 The compliance costs are relatively unimportant in the debate over 
adoption of adjustment for inflation in modern tax systems that operate in a 
developed and sophisticated technological environment. In such an operating 
environment, the introduction and the maintenance of even a CA regime do 
not involve substantial compliance costs that might deter its adoption. In the 
area of compliance, tax systems contending with substantive and technical 
issues are no less complex, and often considerably more complex, than 
adjusting for inflation. For example, the prevailing regime of international 
tax requires comprehensive treatment of international economic activity, or 
the complicated issue of taxation of financial instruments.99 The complexity 
of these two issues is certainly no less than that of adjustment for inflation. It 
should be emphasized that this approach does not deny the influence of all of 
the other considerations mentioned in this chapter on the decision-making 
process regarding the introduction of an adjustment regime. However, their 
relative weight is not significant compared to the substantial importance of 
the paradigm of the general culture of adjustment. 
                                                      

98. See the literature cited in notes 1, 3 and 9.  
99. See, e.g., Alvin C. Warren, Jr., U.S. Income Taxation of New Financial 

Products, 88 J. of Public Econ. 899 (2004); Alvin C. Warren, Jr., Financial Contract 
Innovation and Income Tax Policy, 107 Harvard L. Rev. 460 (1993); David. P. 
Hariton, The Taxation of Complex Financial Instruments, 43 Tax L. Rev. 731 
(1988); J. P. Simon, Selected Federal Income Tax Aspects of Securitizing Debt 
Obligations, 66 Taxes 897 (1988); Reed Shuldiner, A General Approach to the 
Taxation of Financial Instruments, 71 Tex. L. Rev. 243 (1992); Reed Shuldiner, 
Consistency and the Taxation of Financial Products, 70 Taxes 781 (1992); Jeff 
Strand, Choosing a Tax Treatment for New Financial Products, 46 Stan. L. Rev. 
(1994); George C. Howell, III & Cameron N. Cosby, Exotic Coupon Stripped: A 
Voyage to the Frontier Between Debt and Options, 12 Va. Tax Rev. 531 (1993). An 
analysis of these articles reveals a theoretical complexity greater than what is argued 
in regard to adjusting tax regime for inflation.  



436 Florida Tax Review [Vol. 10:4 
 
 There are two arguments for the exclusive focus on cost-benefit 
considerations, which ignore the perspective of the general culture of 
adjustment. The first is that cost-benefit considerations exist in every 
decision-making process. The second is that when we address tax issues like 
the one before us, there is a tendency to adopt a utilitarian view that focuses 
on cost-benefit considerations to the exclusion of other factors such as 
cultural influences. This tendency is consistent with the broader tendency to 
view tax law as one of the most, if not the most, “utilitarian” areas of the 
social order in terms of excluding cultural arguments. In my view, in the tax 
law arena, as in every other normative sphere, the cost-benefit analysis is not 
the only player. The discourse has to adopt a broader and richer analysis 
based also on cultural infrastructure as well.100 The general culture of 
adjustment for inflation provides a good example, as it provides a broader 
perspective on society’s monetary culture, including its psychological and 
sociological aspects.101 
 There are powerful forces in society that are not interested in 
adjustism. For example, in certain circumstances, it is worthwhile for the 
financial sector to continue to communicate in nominal rather than real terms 
(as would be required by a general adjustment culture). This is primarily true 
in regards to the discourse between this sector and the common household. It 
prefers nominal discourse to real discourse since nominal measurements tend 
to show higher levels of profitability than real measurements.102  
 The choice between a CA regime and an IPA or EPA regime is also 
influenced by the general culture of adjustment. The level to which this 
culture has taken root in the social order will be expressed in the scope of 
adjustment chosen. When the adjustment culture is not pervasive, but there is 
an awareness of the substantial need for adjustment in tax law, a regime of 
IPA will be adopted. IPA is a device for bridging the gap between the tax 
discourse and the general discourse in the social order on the adjustment 
issue. EPA is premised on a limited general adjustment culture, and will be 
adopted when the social order is primarily nominalistic, with “adjustment 
islands.” This is especially true when the cultural reality is one of a dynamic 
character, where nominalism is in the process of erosion due to an increasing 
public discourse on adopting an adjustment regime. From this perspective, it 
is reasonable to conclude that the general adjustment culture in the U.S. had 
not even reached the level that enables EPA of the tax regime. The American 

                                                      
100. This issue requires a separate and more comprehensive analysis than 

can be provided in the confines of this article. 
101. See, e.g., Nigel Dodd, The Sociology of Money: Economics, Reason 

& Contemporary Society (Continuum Int’l 1994) (especially Chapter 3: “Cultural 
Aspects of the Mature Money Economy,” beginning on pg. 41). 

102. Regarding deflation, see Strnad, supra note 15, at 247-50. 



2010] The Coming(?) Inflation and the Income Tax 437 
 
social order is characterized by a purely nominalistic culture,103 and 
whatever adjustment islands exist are insufficient to justify the introduction 
of EPA into the tax regime. 
 As noted, the general adjustment cultural paradigm is of crucial 
importance in deciding between a nominalistic regime, a regime of partial 
adjustment or of comprehensive adjustment. It also influences the choice 
between IPA and EPA. However, it does not help in making the choice 
between various IPAs or various EPAs.104 In this regard, the suggested 
paradigm is of little influence in relation to the relative weight of other 
considerations. 
 The general adjustment culture may be dynamic and can respond to 
the scope and challenges of inflation faced by society. The more nominalism 
is culturally ingrained, the greater the inflationary challenge needed to spur 
change. The tax regime may adopt IPA or EPA, but as the non-tax 
environment takes on an increasingly adjusting character over time, the 
partial adjustment regime will gradually fall out of step with the general 
adjustment culture. This will be the case, for example, with a tax system that 
adopts an IPA without any indexing component. If, over time, indexing 
becomes increasingly common in other areas of the social order, the absence 
of even partial indexing in the tax system will be perceived as unjustified. 
 The influence of the general culture paradigm on adjustment for 
inflation is not limited to such fundamental tax issues as the model and scope 
of adjustment of the tax regime. It is also manifested in areas of secondary 
importance, such as whether the adjustment regime will operate 
automatically or whether it will require the exercise of discretion of 
administrative agency.105 The more pervasive the adjustment culture, the 
greater the tendency toward automatic adjustment without an exercise of 
discretion. 
 One can argue that the ultimate proof of the primacy of a cost-
benefit analysis is that it can reasonably be assumed that at particularly high 
rates of inflation, tax regimes will adopt CA. This is because in a highly 
inflationary environment, the benefit to be gained from adjustment 
outweighs the cost. This argument is incorrect. In reality, at high rates of 
inflation we can expect to find a developed general adjustment culture that 
has introduced adjustment mechanisms across the social order, such that CA 
of the tax regime is consistent with the society’s general adjustment culture. 

                                                      
103. For a general description on the United States legal approach to 

adjustment to inflation, see, Chen, supra note 12. 
104. Cost-benefit considerations are of particular importance in these 

decisions. 
105. See text accompanying note 46. 



438 Florida Tax Review [Vol. 10:4 
 
 There are countries, like the United States106 and others,107 in which 
tax brackets are adjusted, as are various fixed sums set by the tax system,108 
even though there is no general adjustment culture. This kind of adjustment 
represents the outer limit of the tax system’s ability to include elements of 
adjustment in a social order dominated by nominalism. Such adjustment is 
possible only because it does not clash with other areas of the social order, 
inasmuch as these variables are unique to the tax system. This is different 
from the fundamental tax concepts of “profit” or “income,” which stand at 
the center of the social order’s economic activity (corporate law, accounting, 
etc.). 
 The proposed paradigm is tied to a broader issue. Two tax culture 
approaches can be distinguished in the tax discourse. The first is the 
isolationist approach, which views the tax culture as set apart from other 
areas of the social order. This approach is reflected in classical legal 
discourse, which does not always include tax law as its normative 
participant. Another approach is the coherent approach, according to which 
the tax discourse forms an integral part of the general social order. The 
proposed paradigm in this study is premised on the coherent, rather than the 
isolationist approach. 
 
D. Nominalism as a Stabilizer 

 
From an economics perspective, nominalism contributes to price 

level stability, and thus works against inflation. Under a macro-economic 
theory, according to which comprehensive adjustment of the social order to 
inflation may cause society to become “reconciled” to inflation, makes the 
marketplace indifferent to inflation. The “reconciliation” will perpetuate and 
even intensify inflation.109 According to the Rational Expectations 

                                                      
106. See text accompanying note 23. 
107. For example, in Canada, France and the U.K., tax brackets are adjusted 

for inflation. See, e.g.,  Brian J. Arnold, Genaral Description: Canada, in Hugh J. 
Ault, Comparative Income Taxation, a Structural Analysis 25, 26 (Kluwer Law Int’l 
1997); Guy Gest , Genaral Description: France,  in Hugh J. Ault, Comparative 
Income Taxation, a Structural Analysis 39, 41 (Kluwer Law Int’l 1997); John Tiley, 
Genaral Description: United Kingdom, in Hugh J. Ault, Comparative Income 
Taxation, a Structural Analysis 109, 117 (Kluwer Law Int’l 1997); See also note 23. 

108. For this component of adjustment regime, see text accompanying note 
23. 
 

109. Bannock et al., The Penguin Dictionary of Economics, 7th Ed. 183 
(Penguin Books 2004) (“‘Indexation’…While indexation reduces the cost of 
inflation, some economists believe it entrenches inflationary expectations and makes 
it harder to get inflation down….”); Fisher, supra note 14, at 193 (“The main reason 
governments are reluctant to adopt price indexation in their own transactions and 



2010] The Coming(?) Inflation and the Income Tax 439 
 
Theory,110 the inflation includes fundamental psychological aspects, making 
it important to restrict the scope of economic regimes that introduce CA. 
Institutionalizing adjustment as part of the social order sends a clear message 
to the public that inflation will continue.111 This argument has been the 
subject of criticism.112 In addition, non-adjustment of the tax system can be 

                                                                                                                             
encourage its use in the private sector is that indexing is thought to be inflationary. 
The argument is that an indexed economy inflates more, and more rapidly, in 
response to an inflationary shock than does a nonindexed economy, given the 
monetary and fiscal policies being followed. It is also argued that the will to fight 
inflation is weakened when the costs of inflation are reduced by indexing –
equivalently, that the adoption of indexing affects the choice of policies.”) See 
Shuldiner, supra note 1, at 546; The Implication for Economic Stability of Indexing 
the individual Income Tax, in Inflation and The Income Tax, supra note 1, at 173-74, 
187-88 (1976); Hirschberg, supra note 2, at 151-52. For a discussion of this 
argument and the counterarguments, see Milton Friedman, Monetary Correction: A 
Proposal for Escalator Clauses to Reduce the Costs of Ending Inflation 29-32 (Inst. 
of Econ. Affairs 1974). 

Tax regimes function as a stabilizer as well and the nominal character of the 
tax regime could be viewed as a stabilizer.  For the stabilization function, see, e.g., 
Yair J. Listokin, Stabilizing the Economy Through the Income Tax Code, 123 Tax 
Notes 1575 (2009). 

110. See, e.g., Thomas Sargent, The Ends of the Four Big Inflations, in 
Inflation: Causes and Effects 41 (Robert E. Hall, ed., Univ. of Chicago Press 1982). 
This study looks at inflation in Germany, Austria, Poland and Hungary between the 
two World Wars and the effects of Rational Expectations Theory on inflation rates.  

111. OECD Report, supra note 9, at 17. 
112. For criticism of these macro concerns, see, e.g., Fisher, supra note 14, 

at 215 (“The theoretical development of section . . . implied that indexation does put 
potential destabilizing mechanisms in place that will worsen the impact of an 
inflationary shock, given monetary and fiscal policies that link money growth to the 
budget deficit. But it was also emphasized that the link between inflation and 
indexation is not inevitable, and that appropriate policies can prevent the inflationary 
shock-cum-indexing effect on the budget deficit that is responsible for the result. The 
empirical evidence, presented in table…, is that the inflationary response to the oil 
shock in countries with indexation was not significantly larger than in other 
countries. This suggests that the indexed countries followed policies that mitigated 
the inflationary impact of the oil shock, or those other countries’ policies permitted 
the oil shock to affect prices as much as it did in indexed countries. Evidence that 
money growth rates responded more to the oil price shock in nonindexed countries 
supports this view.”). 



440 Florida Tax Review [Vol. 10:4 
 
seen as a tool for price stabilization.113 This position is controversial as 
well.114 
 Under the above theories, even if a cost-benefit analysis supports CA 
of the tax regime, it should be rejected in order to attain the anti-inflationary 
goal of price stability. In the general fight against inflation, we must bear the 
cost of maintaining a non-adjusting tax system. However, there is an 
advantage to IPA since it “conceals” adjustment from the public. This 
explains why tax systems adopt IPA despite its inherent substantive 
distortions. This macro-economic consideration creates a hierarchy among 
adjustment regimes, giving high preference to a non-adjusting regime, 
followed by IPA, EPA, and finally, CA.115 
 
E. Tax Collection Considerations 

 
 In general, tax collection is greater in a non-adjusting tax system as 
compared to a comprehensively adjusted tax system (hereafter: “the basic tax 
collection insight”).116 Thus, converting a non-adjustment regime to that of 
partial or comprehensive adjustment, or increasing the scope of adjustment, 
leads to a decline in tax collection.117 These changes in the adjustment 
regime are, therefore, not characterized by tax collection neutrality, and may, 
therefore, be rejected or delayed due to budgetary constraints. In this regard, 
these changes are no different than any other structural reforms in the tax 
system whose adoption, scope and timing may be affected by concern over 
tax collection. These collection considerations are such that the decision to 
adopt an adjustment regime is not solely contingent upon the tax-inflation 
discourse, but is also affected by the general tax discourse, inasmuch as there 
may be other tax areas that require reform and that involve tax collection 
                                                      

113. James L. Pierce & Jared J. Enzler. The Implication for Economic 
Stability of Indexing the Individual Income Tax, in Inflation and the Income Tax, 
supra note 1, at 141, 173; Indexing the Individual Income Tax for Inflation, supra 
note 9, at 21-22.   

114. Shuldiner, supra note 1, at 546. 
115. For a discussion of the issue whether the tax system should be 

employed to contend with macro-economic issues, see, e.g., Strnad, supra note 15, at 
249-50.     

116. See, e.g.,  Henry J. Aaron, Inflation and The Income Tax: An  
Introduction,  in Inflation and The Income Tax, supra note 1, at 16-17; Indexing the 
Individual Income Tax for Inflation, supra note 9, at 10-11; Margalioth, supra note 
41, at 209. See also W. Elliot Brownlee, Federal Taxation in America: A Short 
History, 135-36 (Cambridge Univ. Press 2004) (the historical public debate in the 
U.S. regarding the adjustment of tax brackets and fixed amounts, where collection 
considerations weighed against those adjustments). 

117. Collection considerations can support making adjustment subject to 
discretion. See, e.g., OECD Report, supra note 9, at 30.  



2010] The Coming(?) Inflation and the Income Tax 441 
 
declines. Budgetary constraints thus impose trade-offs among the various tax 
issues, including that of adjustment for inflation. The existence of a 
nominalistic culture versus a culture of adjustism is of particular importance 
in this regard, because the greater the extent of the latter, the greater the 
tendency toward adjustment despite concerns over tax collection.118   
 
F. Political and Social Considerations 
 

Introducing the adjustment tax regime constitutes a change in the 
economic, social and political status quo and it may face considerable 
political opposition. During a period of inflation, a non-adjusting tax regime 
increases the tax burden. It allows an increase in the effective tax without 
increasing the tax rate,119 and politicians are fond of hidden taxes.120 
Furthermore, there are taxpayers who benefit from non-adjustment,121 and 
will join the politicians and supporting the nominalistic status quo by 
opposing the adjustment, based on a variety of arguments mentioned 
above.122   

                                                      
118. It should be noted that sometimes part of the discussion devoted to tax 

collection decline in deciding the character of the adjustment regime focuses also on 
the difficulty that will be caused in regard to the budget, both in terms of planning 
and in terms of execution. This issue reflects, inter alia, a political argument 
according to which adjustment limits political maneuverability compared to its scope 
in an environment of nominalism (on the political aspects of the adjustment issue, 
see Part IV F below). Part of the debate on budgetary issues focuses on the lack of 
equilibrium in the budgetary process because some of the elements of the budget are 
adjusted for inflation, while others are not. It should be pointed out that this 
argument should be seen as part of the culture of adjustism/nominalism of the social 
order which comprises the budgetary process as well. For an analysis  of the various 
arguments concerning the relationship between inflation, adjustment for inflation 
and the budgetary process in both its components, see, e.g., Indexing the Individual 
Income Tax for Inflation, supra note 9, at 14-25.  

119. Indexing the Individual Income Tax for Inflation, supra note 9, at 15. 
See also W. Elliot Brownlee, supra note 116 at 126-28, 133) (historical analysis of 
this phenomenon in the United States in the course of various inflationary periods, 
particularly following the two World Wars, and in the course of the nineteen 
seventies (primarily in the second half of the decade)). 

120. See, e.g., Sven Steinmo, Taxation and Democracy: Swedish, British 
and American Approaches to Financing the Modern State 19 (Yale Univ. Press 
2004); Milton Friedman, supra note 119, at 13-15. 

121. As a result of the nature of their economic activity or as a result of 
their tax arbitrage.   

122. One of the central variables in the cost-benefit debate is the high 
operating cost of an adjusting regime. Thus, for example, supporters of the non-
adjusting status quo have argued in the past that adjusting tax brackets and fixed 



442 Florida Tax Review [Vol. 10:4 
 
 Political powers prefer arrangements that involve political decisions 
or administrative discretion123 so they have the potential to be used or even 
abused in various alternatives, based on the political arena. One of the main 
arguments raised in the U.S. against adopting adjustment regimes is that a 
comprehensive and automatic adjustment regime would prevent the political 
echelon from annually reexamining the tax system in its entirety in order to 
uncover tax arrangements that should be redesigned. This argument is wrong 
for four reasons: First, it would be exceedingly difficult to produce tax cuts 
that could precisely offset excess taxes, both in terms of scope and entitled 
taxpayers, resulting from non-adjustment. Second, this practical difficulty 
infringes economic efficiency. Third, it is possible that the distortion created 
by non-adjustment is more substantive than the other distortions that may be 
discovered. Fourth, this argument undermines any possibility of tax reform 
intended to correct distortions. Moreover, such an argument124 allows the 
political echelon to retain tremendous power to “correct” inflationary 
damage by means of tax reductions in other areas, while not addressing them 
in the primary area of adjustment for inflation.  
 Adopting a CA regime sets aside political considerations, since this 
regime comprises an all-inclusive, precise, automatic mechanism that, by its 
nature, neither requires nor is subject to purely political decisions. It is an 
independent normative regime that is not directly or indirectly dependent on 
the ongoing political discourse. In contrast, IPA and EPA regimes do involve 
the political discourse, which may explain their greater appeal,125 as well as 
the continued widespread use of IPA, despite its general inferiority to 

                                                                                                                             
amounts in the income tax regime presents a difficult and complex challenge; see, 
e.g., W. Elliot Brownlee, supra note 116, at 135 -6 . 

123. The primary argument for adopting automatic mechanisms is that of 
distributive justice. For the issue  of automatic adjustment and discretionary 
adjustment, see Richard Goode, Government Finance in Developing Countries 128 
(The Brookings Inst. 1984); OECD Report, supra note 9, at 17-18, 30. For 
comparative aspects of this issue, see The Adjustment of Personal Income Tax 
Systems for Inflation, supra note 9, at 13-16. 

124. The argument is not limited to adjustment of the tax regime, but also 
applies to other areas of the social order in which a political effort can be made to 
neutralize the effects of inflation by means of correcting other distortions, while 
leaving inflation itself unaffected. 

125. A CA proposal put forward in the U.S. in 1984 failed, inter alia, 
because political interests eroded its pure adjustment objectives by introducing tax 
arrangements that contradicted the adjustive purpose of the proposal. For example, 
the proposal made it possible to deduct mortgage interest, including the inflationary 
element, even though the proposed adjustment regime ruled out deducting the 
inflationary component of interest expenses. See Slemrod & Bakja, supra note 23, at 
238 n.9. 



2010] The Coming(?) Inflation and the Income Tax 443 
 
EPA.126 Using IPA allows for political use, and abuse, of the adjustment 
regime. Partial adjustment arrangements, particularly implicit ones, can be 
used to accomplish unrelated political goals without a public debate. For 
example, consider the debate over the appropriate tax burden on capital 
gains.127 One argument for the reduced tax rate for capital gains is the issue 
of taxing inflationary profits, even though those gains enjoy deferral.128 
From a political perspective, implicit adjustment has, in general, the dual 
function in the sense that it can be justified on the basis of inflationary 
function or on the basis of a non-inflationary function. This leads to political 
maneuvering that can maximize the advantages of this dualistic 
dimension.129 This duality may facilitate the enactment of controversial tax 
arrangements by emphasizing the adjustment aspects while eroding 
contentious non-adjustment aspects. There can also be situations in which 
political considerations will operate in the opposite direction, emphasizing 
the non-adjustment feature while playing down adjustment.130 The range of 
uses to which the duality of the tax arrangement can be used is a product of 
the general social order regarding adjustism/nominalism. In the discourse of 
a culture of nominalism, the debate over the appropriate capital gain tax rate 
will emphasize the non-adjusting function of the reduced tax rate, whereas in 
the discourse of a culture of adjustism, the adjusting function will be more 
prominent. 
  There are political advantages to an EPA regime as well. Creating 
tax regimes that adjust only certain economic components or activities can 
provide new areas for political maneuvering. Rather than apply CA to all 
taxpayers as part of the normative equality-based tax regime, the EPA 
regime would be seen as a medium for granting tax benefits. The basic 
requirements of the normative tax regime (e.g., taxing real income) would be 
                                                      

126. For the political conceptions that influence the scope of adjustment for 
inflation in the tax arena, see Shuldiner, supra note 1, at 641. Shuldiner argued that 
American politics assigns greater importance to adjustment of capital assets than to 
liabilities, although he believes that the adjustment of liabilities is more important.   

127. This represents a concealed partial adjustment regime. For this issue, 
see Part III C. 

128. See, e.g., Shuldiner, supra note 1, at 552-57; Halperin & Steuerle, 
supra note 3, at 354. 

129. Thuronyi, supra note 1, at 445, argues that IPA is explained on a non-
adjustment function. In my opinion, IPA can also be explained on the adjustment 
function when the culture of nominalism is common and it reflects the “maximum” 
adjustment that can be introduced into this culture.  

130. Imagine a CA tax regime in which there is also a reduced capital gain 
tax rate. In such circumstances, strong emphasis would be placed on the non-
adjustment aspects of the reduced capital gain tax rate, while the adjustment aspect 
would be muted in order to preserve the reduced capital gain tax rate together with 
the comprehensively adjusted tax regime. 



444 Florida Tax Review [Vol. 10:4 
 
politically transformed into tax benefits (tax expenditures).131 This 
transformation is of public importance because such EPA can divert the 
public discourse from a debate on the normative nature of the adjustment 
regime to a debate of tax expenditures. It enlarges the political involvement 
in the redesigning of the partial adjustment tax regime and, in turn, increases 
the potential for arbitrariness and abuse. Here the culture of 
adjustism/nominalism of the social order plays a very important role: The 
strength of political considerations wanes the more a society employs 
adjustism. The ability of political groups to adopt/prevent the CA or 
IPA/EPA regime diminishes as the culture of adjustism/nominalism 
increases in the social order. 
 The public debate on adjustment in the tax arena comprises of 
political tension among different groups of taxpayers. For the purpose of this 
discussion, I will refer to each of the concepts as follows: 
 

ATC - the total tax collected under a CA regime (Adjusted Tax 
Collection).  

NTC - the total tax collected under a non-adjusted tax regime 
(Nominal Tax Collection).   

EUIT - the difference between the NTC and the ATC is the excess 
tax, positive or negative, caused by inflation (Excessive Unadjusted 
Inflationary Tax; NTC – ACT = EUIT).132  

 
 The taxpayer population is comprised of three groups when looked 
at from the perspective of the effect of non-adjustment/adjustment on tax 

                                                      
131. On the relationship between the adjustment regime and tax 

expenditures, see W. Elliot Brownlee, supra note 116, at 132-33.  
132. Since EUIT is created as a result of inflation, it would seem 

appropriate to call it Inflation Tax, but that concept has a completely different 
meaning, according to which inflation itself constitutes a tax in the sense that it 
transfers real resources from the public to the government. It is the government that 
imposes the tax (inflation) due to its monopolistic power over money supply. A 
distinction should be drawn between Inflation Tax and Seigniorage. The state’s 
revenue from issuing currency, in its sovereign and monopolistic role, unrelated to 
inflation, is referred to as “seigniorage.” However, if the government wishes to 
increase its revenues, and induces inflation, its revenues in excess of seigniorage 
constitute “inflation tax.” John Maynard Keynes, Tract on Monetary Reform 41 
(1935) (Keynes referred to inflation (as a tax) as: “…the form of taxation which the 
public find hardest to evade and even the weakest government can enforce.”); Milton 
Friedman, supra note 119, at 13 (From a political point of view, governments are 
particularly fond of taxation in the form of inflation: “Inflation has been irresistibly 
attractive to sovereigns because it is a hidden tax that at first appears painless or even 
pleasant, and above all, because it is a tax that can be imposed without specific 
legislation. It is truly taxation without representation.”). 



2010] The Coming(?) Inflation and the Income Tax 445 
 
liabilities: The first group consists of the taxpayers whose tax liability 
decreases as a result of adjustment. This group is thus “fined” as a result of 
non-adjustment (hereafter: the fined taxpayer group). The second group 
comprises of taxpayers who are not affected by the adjustment/non-
adjustment arrangements (hereafter: the indifferent taxpayer group).133 There 
is a third group of taxpayers, who benefit from a decrease in the scope of 
adjustment, in the sense that as the scope of adjustment increases, their tax 
liability increases (hereafter: the benefited taxpayer group). The benefited 
taxpayer group exists as a result of the gap between theory and the effective 
tax reality, one which includes loopholes and enables tax planning and 
arbitrage. This reality occurs in a non-adjustment regime or in a partial 
adjustment regime, due to the absence of comprehensive adjustment.134  
 There are thus three possible scenarios: If the EUIT on the fined 
taxpayer group is greater than the (negative) EUIT of the benefited taxpayer 
group, then EUIT > 0. In this situation, a CA decreases the total collection 
revenue, which is in accordance with “the basic tax collection insight.”135 In 
contrast, if the EUIT imposed on the fined taxpayer group is less than the 
(negative) EUIT of the benefited taxpayer group, then EUIT < 0. In this 
situation, a CA will increase the total collection revenue. If the EUIT 
imposed on the fined taxpayer group is equal to the (negative) EUIT enjoyed 
by the benefited taxpayer group, then EUIT = 0. In this scenario, it is also 
important to carry out CA, because such adjustment increases the distributive 
justice and economic efficiency of the tax regime by eliminating the excess 
tax and the negative tax, leaving the taxpayers with tax burdens equal to the 
tax burdens in a tax regime in an inflation-free environment. These 
conclusions apply to an introduction of a CA, but only partially apply to EPA 
or IPA. 
 The conflict between the benefited taxpayer group and the fined 
taxpayer group creates political, economic and social tension in the public 
discourse about adjustment. The more realistic “the basic tax collection 
insight” – in the sense that it accurately reflects reality – the smaller the 
benefited taxpayer group, and the lesser the tension between the two groups. 
When “the basic tax collection insight” is accurate, the benefited taxpayer 

                                                      
133. Employees are generally members of this group. 
134. Thus, for example, in terms of tax collection, the tax system may find 

itself in a position in which the total tax collection under a partial adjustment regime 
is lower than under a CA regime, due to inefficient introduction of partial adjustment 
components that enables tax arbitrage. 

135. This is not to say that the benefited taxpayer group is empty, but rather 
that the extent of their benefit is smaller than the extent of tax imposed upon the 
fined taxpayer group. 



446 Florida Tax Review [Vol. 10:4 
 
group is empty and the only player left on the field is the fined taxpayer 
group that desires the elimination of the unjust tax imposed on it.136  
 The indifferent taxpayer group may take part in this public debate, 
and either support or resist adjustment, despite its indifference, as long as its 
relative portion of the tax collection changes as a result of increased 
adjustment. For example, when the benefited taxpayers are an empty group, 
then increasing the scope of adjustment reduces the tax burden on the fined 
taxpayer group, to which the indifferent taxpayer group may object in light 
of the increase in its relative contribution to overall tax revenues. Such an 
objection should be rejected because while the adjustment indeed increases 
the relative tax burden of the indifferent taxpayer group, the original tax 
burden imposed on the fined taxpayer group was unjust and therefore had to 
be changed. 137 
 Assuming EUIT > 0, which is most likely, proceeding from a lesser 
adjustment to a greater adjustment will cause an erosion of the EUIT. Such a 
process has two tax consequences: First, transitions that increase adjustment 
create a “negative tax” that may be unjustly distributed. Thus, for example, if 
the partial adjustment regime chooses only to index capital gains, then the 
owners of capital assets will enjoy a negative tax while those who do not 
possess capital assets will continue to bear the burden of non-adjustment, i.e., 
the remainder of EUIT after its reduction through indexing capital gains. 
Second, partial adjustment may create new opportunities for tax arbitrage 
due to the fact that the adjustment mechanisms of the tax regime are not 
coherent. Such tax arbitrage causes the EUIT to decrease not only due to the 
increase of adjustment, but by a greater amount due to the tax arbitrage.138  
 Moving along the spectrum of adjustment regimes toward increased 
adjustment includes converting from one adjustment regime to another where 
the difference between them is in the content of the various adjustment 
components. Every partial adjustment regime changes the scope and 
composition of the benefited taxpayer group, the fined taxpayer group, and 
the indifferent taxpayer group, and the EUIT imposed. An adjustment 
                                                      

136. The third group of taxpayers unaffected by adjustment/non-adjustment 
is not relevant to this discussion. 

137. For collective action’s aspects regarding inflation, see Mancur Olson, 
The Logic of Collective Action 166 (Harvard Univ. Press 1971). 

138. A single process of increasing adjustment can meet – although not 
entirely – the condition of distributive justice if the only variable related to 
adjustment is the extent of indexation, i.e., gradually increasing the percentage of 
indexation. Thus, for example, at the beginning of the adjustment process, all of the 
relevant elements of the tax system are linked to a certain percentage of the index, 
and progress along the spectrum of adjustment regimes is carried out by means of 
gradually increasing the level of linkage to the index up to 100% linkage, which 
constitutes CA. In general such an adjustment process would be atypical. See also 
text accompanying note 61. 



2010] The Coming(?) Inflation and the Income Tax 447 
 
component added to the adjustment regime changes the composition of the 
three groups and their EUIT burden. This conclusion will be correct even if 
EUIT < 0, because every increase in the extent of adjustment leads to 
changes in the relative tax burdens of the three groups. Even if EUIT = 0, the 
composition and tax burdens of the three taxpayer groups may change in 
either direction. A parallel issue concerns economic efficiency. Adopting a 
gradually adjusting approach leads to changes in modes of economic 
behavior, and causes changes in the composition of the three taxpayer groups 
and their share in the EUIT. The primary goal for economic efficiency is 
finding the optimal “imposition” of the EUIT during the adjustment process.  
 To summarize, when a tax system progresses along a spectrum of 
adjustment regimes, each step will encounter a political confrontation from 
the taxpayer groups due to the concrete components of adjustment. This will 
be the case because those components will influence the manner in which the 
positive and negative elements of the EUIT will be distributed among the 
different groups, as well as the scope and composition of the indifferent 
taxpayer group. The political discourse will focus both on distributive justice 
and economic efficiency. The wide range of considerations in this regard 
may result in a political decision that will create discontinuous and distorted 
movement along the spectrum not grounded in a tax policy appropriate for 
confronting inflation. Intense political involvement in the design of partial 
adjustment regimes can lead to distortions of distributive justice and 
economic efficiency and may serve as a strong incentive to adopt a CA 
regime. 
 The tension among the various taxpayer groups plays out against the 
background of society’s culture of nominalism or adjustism. In a culture of 
adjustism, the fined taxpayer group is more likely to support further 
adjustment of the tax regime. If society is dominated by a culture of 
nominalism, then the benefited taxpayer group will find support for its desire 
to maintain the nominalistic status quo. Inasmuch as nominalism is the 
typically dominant culture, one may expect the fined taxpayer group to play 
the most active role in advocating the adjustment of the tax system for 
inflation, as well as for increasing the adjustment in other areas. Moreover, 
the same paradigm will lead the benefited taxpayer group to oppose not only 
the adjustment of the tax system, but any attempt to introduce adjustment for 
inflation in any part of the social order, due to the influence that adjustment 
of non-tax areas will have on adjustment of the tax system.139 
 
 
 
 
                                                      

139. See OECD Report, supra note 9, in regard to the influence of other 
areas of the social order. 



448 Florida Tax Review [Vol. 10:4 
 
G. Inflation Levels and Tax Rates 
 

As noted,140 the inflation levels and tax rates are built into the 
arguments and considerations discussed above. For example, a cost-benefit 
analysis demonstrates that the higher the inflation rate and tax rates, the 
greater the benefit of adjustment.141 The same applies for the general culture 
paradigm of inflation.142 The higher the inflation rate, the more likely it is 
that adjustment regimes are rooted in non-tax areas of the social order. 
However, it is possible that a society will have a culture of adjustism even 
when inflation rates are not high. This may result from past experience with 
high inflation143 that engendered social and economic sensitivity. Under 
these circumstances the effect of the general culture paradigm will be 
opposite to the effect of cost-benefit analysis. Under the general culture 
paradigm, tax rates have relatively little influence over the scope of 
adjustment. This greatly contrasts the importance of tax rates to cost-benefit 
considerations. What about the macro-economic considerations combating 
inflation by means of nominalism?144 The influence of the inflation rate on 
the weight of these considerations is the reverse: the higher the inflation rate, 
the more important it becomes to eliminate it by means of non-adjustment. 
Tax rates do not affect the macro-economic considerations favoring non-
adjustment for inflation. 
 The inflation level and tax rates also influence tax collection 
considerations.145 The higher the inflation level and the tax rates, the higher 
the budgetary cost of introducing adjustment mechanisms into the tax 
system. Therefore, tax collection considerations will lean in the opposite 
direction of cost- benefit considerations and the effect of the general culture 
paradigm. The political considerations follow the direction of collection 
considerations, in the sense that the higher the inflation level and tax rates, 
the more valuable the “political assets” that result from the absence of 
comprehensive or partial adjustment. Nevertheless, as inflation and tax rates 
rise, the relative importance of tax collection and of the political 
considerations lessen in comparison to that of general culture paradigm of 
inflation and the cost-benefit considerations. Under such circumstances, 
adjustment for inflation will increase. 

                                                      
140. See text accompanying note 1 et seq. 
141  . However, the analysis becomes complicated when inflation is not high, 

since the compliance costs are not strongly affected by the inflation rate’s increase.  
142. See Part IV C. 
143. On the expression of an inflationary culture in the context of the role 

of the central bank in stabilizing prices, see, e.g., Bernd Hayo, Inflation Culture, 
Central Bank Independence and Price Stability, 14 Eur. J. of Pol. Econ. 241 (1998).  

144. See Part IV D. 
145. See Part IV E. 



2010] The Coming(?) Inflation and the Income Tax 449 
 

CONCLUSIONS 
 

 This article analyzes fundamental aspects of adjusting the tax regime 
to inflation. The cultures of nominalism and adjustism are placed at the 
center of the analysis due to the reciprocal relationship between the tax 
adjustment debate and the unadjustment/adjustment culture that dominates 
the social order. In these relationships, there is “equilibrium” between the 
scope of adjustment in the social order and in the tax regime. Advancing 
adjustment of the tax regime requires that it also be promoted in the general 
social order. Adjustment to inflation demands the tax discourse to be 
integrated within the general social order. This cultural paradigm plays a 
central role in the tax response to inflation, both in terms of the adoption of 
an adjustment regime, and in regard to the scope and character of that 
regime. According to this approach, the academic orientation that sees the 
complexity of comprehensive and partial (implicit and explicit) adjustment 
as the primary cause for adopting nominalism is largely rhetorical in that it 
ignores the following: First, the current tax regime comprises elements that 
are far more complex than the alleged “complexity” of adjustment for 
inflation. Second, greater weight should be given to the cultural nature of 
adjustment to inflation, and less emphasis should be placed on its technical 
aspects. Adjustment for inflation is a cultural phenomenon and not a 
technical issue. This article takes the view that tax regimes should be 
analyzed and critiqued on the basis of an integrative-cultural approach which 
is reflected in the social order, rather than an isolated phenomenon not 
playing a major role in the social order.