Adjusting Depreciation for 

Price Changes 

Eugene Steuerle 

U.S. Treasury Department 

OTA Paper 37 March 1979 

OTA Papers are circulated so that the preliminary findings of 

tax research conducted by staff members and others associated 

with the Office of Tax Analysis may reach a wider audience. 

The views expressed are those of the author, and do not 

reflect Treasury policy. Comments are invited, but OTA 

Papers should not be quoted without permission.from the 

authors. Managing editors are Michael Kaufman and Gary Robbins. 

Office of Tax Analysis

U.S. Treasury Department, Room 1104 

Washington, D.C. 20220 

Issued: March 1979 
-* 

I . 

I1. 

I11. 

I17 . 

V. 

TABLE OF CONTENTS 

Page 

Introduction .................................... 1 

Pleasuring Depreciation. Capital Gains and 

Income .......................................... 4 

Accounting for Inflation ........................ 8 

Taxation of Capital Gains ....................... 15 

Conclusion ...................................... 23 
0, 

L. 

Adjusting Depreciation for Price Changes * 

I. Introduction 

It is commonly known that the real value of depreciation 

may be understated when there are inflationzry increases in 

the value of assets and depreciation is measured on an 

historic cost basis. Yet considerable debate has arisen over 

the proper method, if any, of adjusting �or inflation, both 

for income accounting and �or tax accounting purposes. Under 

one proposed method of adjustment, assets would be 

depreciated on the basis of their current cost of 

replacement. Under another method , adjustments would be made 

only for overall changes in general purchasing power rather 

than changes in specific asset prices. Gpinions as to the 

proper method of accounting for inflation vary widely, as can 

be witnessed by a tax law which allows for no adjustments 

from historical cost depreciation; a Securities and Exchange 

Commission rule -1/ which requires certain large firms to 

* I would like to thank Seymour Fiekowsky, Harvey Galper, 

Michael Kaufman, Don Skadden, Emil Sunley, James Wheeler, and 

the students and faculty at the Accounting Seminar at the 

University of Michigan for their helpful and inciteful 

comments. All errors, of course, remain the author's. 

-1/ Under Accounting Release 190 (March, 1976) the Securities 

and Exchange Commission requires certain large firms to 

report replacement cost information on depreciation, 

inventories, etc. 
-- 

-2-

disclose replacement cost information on depreciation ana 

inventories; and a proposed, but not adopted, statement of 

the Financial Accounting Standards Eoard -2/ to require 

certain large firms to disclose supplemental information on 

depreciation on either a replacement cost or historical 

cost/constant dollar (general purchasing power) basis. 

. This paper argues that the issue of adjusting 

depreciation �or inflation should be treated as part of the 

broader issue of how to measure all income from capital and, 

in particular, all income from holding a depreciable asset. 

Thus, the income of a firm is influenced not only by 

depreciation, but by other changes in the value of assets. 

Eecause replacement cost depreciation provides for 

depreciation deductions based on current costs, the real 

value of depreciation can best be measured using a 

replacement cost basis. However, the fact that the real 

value of depreciation might be best measured by replacement 

cost depreciation does not mean that the real income from 

holding an asset can best be measured by allowing replacement 

-2/ Financial Accounting Standards Board, Financial Reporting 

and Changing Prices, Proposed Statement of Financial 

Accounting Standards, Exposure Draft, December 28, 1978. The 

statement was in proposal form only at the time when this 

paper was published. 
-- -- 

-- 

-- 

-3-

cost depreciation. In fact, in absence of accrual accounting 

for all changes in value of assets, it will be found that 

depreciation based upon replacement cost leads. to a worse 

measure of income than does depreciation adjusted for overall 

changes in the price level. 

If consistent rules are used to measure income for a 

firm, the choice of a price adjusted basis for measuring 

depreciation involves a simultaneous choice of the basis for 

calculating gains on sales of assets which are depreciated. 

accounting rules but not income accounting rules the 

basis value for calculating realized capital 9air.s on sales 

o� depreciated assets should be different from the basis 

value for calculating depreciation; that is, capital gains 

basis should not be indexed. 

In Section I1 the measurement of depreciation is related 

.. to the measures of income and capital gains. Section 111 

examines the effect of inflation on these measures and, in 

particular , demonstrates how two methods of adjusting 

depreciation for changes in prices replacement cost 

depreciation and inflation adjusted depreciation differ in 

their ability to reflect the change in value of an asset. 

Section IV details various methods of calculating gains on 
-4-

the sale of a depreciable asset in a world of price aajusted 

depreciation and discusses some of the problems and 

distortions created by each method. Finally, Section V 

concludes with a note on the difficulties created by indexing 

only some measures of income or changes in value of capital 

assets. 

11. Measuring Depreciation, Capital Gains and Income 

For a firm, an analogue to the Haig-Simon definition of 

income is that 

where Y = income, D = dividends, and A NW = change in net 

worth. The expression assumes that wages can be adequately 

separated from the income to capital and that there are no 

new capital contributions. -

3/ 

In order to measure the change in net worth over the 

accounting period, the change in value of the assets of the 

firm must be determined. That change in value (V), in turn, 

-3/ Alternatively, one could assume that capital

contributions are negative dividends equal in amount to the 

change in net worth. 
can be defined as the change in price (P) times quantity (Q) 

of assets held, or 

A V = A(P Q) 

Expanding (2) yields: 

In the case of both depreciable and non-depreciable 

assets, the income term on the left-hand side of euuation (3) 

is seldom measured for tax or income accounting purposes. In 

the case of depreciation, what is usually measured is some 

variant of the second term on the right-hand side of the 

equation (i.e. , P A �1 ; that is, some rate of supposed wear 

and tear is applied to a given asset price. In the case of 

capital gains, (for both depreciable and non-depreciable 

assets) , what is usually measured is some variant of the 

first term on the right side (i.e., AP * Q); in this case, c -

the asset quantity is held constant and only the change in 

its price is measured. Thus, for a non-depreciable asset, 

capital gains = AV; while for depreciable assets, capital 

gains roughly equals that portion of AV not accounted for by 
-- 

-6-

depreciation. Yet some authors have also defined the change 

in net worth as depreciation, -4/ and some have defined it as 

capital gains. -5/ In both cases, the authors essentially are 

defining depreciation or gains as equal to the more 

comprehensive income variable , A V. 

What adds to the confusion is the treatment of 

depreciation for purposes of taxation. The tax code -

6/ 

allows as a depreciation deduction an allowance �or 

"exhaustion" and "wear and tear;" thus, the deduction is 

conditioned on "physical" changes in the assets. Land may 

not be depreciated, but buildings may be depreciated even if 

they increase in value in real terms. Since the basis for 

tax depreciation cannot be adjusted upward or downward for 

changes in overall price levels, one might conclude that tax 

depreciation is a measure of "physical" depreciation based on 

historic cost. However , an asset is depreciated to zero (or 

-4/ As an example, Coen defines economic depreciation as 

"change in value of capital goods over the accounting

period." See [4], p. 59. 

-5/ For instance, Break and Fechman speak of investors who 

''increase their wealth by the full amount of any accrued 

capital gains," roughly equating change in wealth with 

capital gains. See [31 , p. 45. 

-6/ Code Section 167(a). 
-- 

salvage value) over the course of its life or the life of a 

related “class” -7/ of assets, and the tax code further 

defines the depreciation deduction parenthetically to include 

an allowance for obsolescence. Because “life ends” or 

”+ obsolescence occurs when either price or quantity equals 

zero, the allowable life of most assets is dependent upon 

changes in prices as well as physical changes in the assets. 

For instance, technological advances may lower the price of 

an asset to zero even though the asset, when combined with 

certain other inputs such as labor, may still be capable of 

producing output. The life of an asset is then affected by 

the change in its relative price as well as its actual 

physical deteriorztion. Since the rate of depreciation is 

dependent upon the life of the asset, it too is affected by 

changes in price as well as physical depreciation. 

To simplify our analysis, equation (3) will be rewritten 

as: 

Change in = Capital Net Worth Gains + Depreciation + Residual, (3’) 

-7/ Under the class life asset depreciation range (ADR) 

system, lives of individual assets are based on average lives 

for a class of assets. 
-8-

where changes in value due to changes in price are referred 

to as capital gains and changes in value due to changes in 

the units of capital, or quantity, are referred to as 

depreciation. -8/ In effect, for present purposes 

depreciation is c0nfine.d to changes in value caused by wear 

and tear. However, the result of the following analysis will 

hold as long as all changes in value of depreciable assets 

are not recognized currently in the calculation of 

depreciation or income; capital gains in that sense may be 

thought of as the change in value of the asset not recognizea 

in the calculation of depreciation. 

111. Accounting for Inflation 

We have already made clear that the income from holding 

a depreciable asset is related to change in value and, 

therefore, not only to depreciation, but to changes in the 

price of capital assets as well. This is true regardless of 

whether or not there is inflation in the economy. The total 

change in value of a depreciable asset can be affected by a 

variety of factors besides physical depreciation, including 

-8/ Since the literature on depreciation is inconsistent in 

its definition, this distinction between depreciation and 

other changes in value of assets cannot be consistent with 

all definitions. 
-9-

change in demand for the output of the capital, changes in 

capital/labor ratios, technological change I and change in the 

scarcity value of the primary inputs from which the asset is 

made. 

If inflation is added to the system at the rate "if" 

then the real change in value (AT) can be measured as: 

-

~v = AP ' Q + P ' AQ + AP ' AQ - i ' F ' Q I (4) 

where i ' P ' Q equals the inflation rate times the value of 

the asset at the beginning of the time period. with 

inflation, the value of depreciation may be understated Slue 

to the increased price of the asset. To remedy this 

understatement, replacement cost depreciation (RCD) is often 

proposed as an alternative measure of depreciation, where: 

RCD = (P + AP) * AQ (5) 

Under this accounting technique, also called current cost 

accounting, the physical depreciation or decline of the asset 

is applied to an adjusted price or the "replacement cost" of 

the asset. However, comparing equation (3) with equation 

(4), replacement cost depreciation can be seen to equal the 

nominal change in net worth less nominal capital gains: 

RCG = AV - AP * Q 
-10-

Similarly, combining equations (4) and (5) , replacement 

cost depreciation can be seen to equal the real change in net 

worth less real capital gains: 

RCD = AT - [ AP - (i P)1 ' C (7) 

Thus, replacement cost depreciation can be viewed as 

subtracting from total change in net worth not only the 

inflationary component of capital gains, but the real 

component as well. 

Suppose that it was decided to adjust the measure of 

depreciation for the effects of inflation. Would replacement 

cost depreciation be the correct way of allowing for such as 

ad] ustment? Consider the difficulties that would arise. 

Businesses would be required annually to measure ana report 

the change in prices of numerous assets. These estimates 

would need to take into account technological change an6 

other hard-to-measure variables on prices of assets. The 

prices of the assets, if new, could not be checked in the 

market place since most of the assets would change in form 

and characteristics over time. 

However, these administrative difficulties of 

replacement cost depreciation are only practical reasons for 

objecting to its adoption. The major theoretical objection 

_ -
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-_ 

_ -

to replacement cost degreciation -----------from both an income and a 

--------___----- tax accounting stand~intis that it could result in the

depreciation of real capital gains that were never recognized 

as income or realized for tax purposes. 

Suppose, for instance, that a widget-making plant is 

capable of producing 10 widgets when new but only 9 widgets 

after a year. Suppose also that the plant must be made out 

of silver, and that, while there was no inflation, the 

original cost of such a plant rose from $100 to $200 as the 

price of silver rose. -9/ In a world of replacement cost 

depreciation, but not of accural accounting of gains and 

losses, replacement cost depreciation would allow a 

depreciation of $20 after one year. One-half of that $20 

would be depreciation of the $100 of unrealized gains. 

Moreover, if there were no further price changes, replacement 

cost depreciation eventually would allow $200 of depreciation 

to be recognized on an investment of $100. 

Similarly, if there were real capital losses, 

replacement cost depreciation would reduce the basis for 

depreciation by the amount of these non-realized losses and 

-9/ Alternatively, the potential profit from selling widgets 

might be assumed to double. 
-12-

could actually prever,t the initial investment from ever being 

fully depreciated. Assume the same circumstances for the 

widget-making plant described in the preceding paragraph, 

except let the plant be maae out of copper which falls in 

price from $100 to $50. In this case, allowed depreciation 

under replacement cost depreciation is only $5 after one 

year , and, with no further price changes, total allowed 

depreciation over the life of the asset will only be $50 even 

though the initial investment equaled $100. 

Only if gains and losses simultaneously were realized on 

an accrual basis would an allowance for replacement cost 

depreciation lead to a correct measure of income. An easy 

coversion of equations (6) and (7) reveals that if capital 

gains (real or nominal) ere added to replacement cost 

depreciation, the sum equals the change in value of the asset 

(real or nominal). This is more or less a corollary to the 

Samuelson requirement for tax deductibility of economic 

depreciation. Interpreted in the language of this paper, 

Samuelson shows that, if valuations of assets are to be -. 

independent of individuals' tax rates , then accrued capital 

gains from changes in relative price should. offset declines 

in value due to wear and tear; the net tax deduction should 

equal the change in market value of the asset -10/ (Samuelson 

did not deal with price changes due to inflation). 

-10/ See [lo] and the comments in PP * 10-11. 
-13-

Here we note that, if capital gains are counteu in income as 

accrued, then the correct measure of depreciation is obtained 

through replacement cost accounting. Correspondingly, in 

absence of accrual accounting for gains and losses, 

replacement cost depreciation by itself would not correctly 

measure the change in value of the asset. 

If inflation adjustments are to be made for 

depreciation, an alternative (and simpler) method to 

replacement cost depreciation would be to allow an adjustment 

only for some average rate of inflation. -11/ In this case, 

allowable depreciation would still be bksed primarily on 

physical depreciation, only the price variable (or basis) 

would be adjusted by the rate of inflation over time. In 

effect, both original cost and past depreciation would be 

restated in the current period's prices to determine the 

basis for current depreciation. Thus, if IAD equals 

inflation ad j usted depreciation, 

IAD = (1 + i) P AQ 

- we ignore the question of which is the appropriate 

price index to choose. 
----------- 

-14-

It should be made clear, however, that IAD does not 

------I 

correctly measure the current value of depreciation or wear 

and tear. IAD allows the value of all past depreciation 

allowances plus value of the original purchase price of the 

asset to be mea.sured in constent dollars based on the current 

year's prices. In other words, basis for depreciation 

becomes indexed for inflation. 

As long as capital gains and losses on depreciable 

assets are not recognized as accrued, inflation adjusted 

depreciation comes closer to a measure of the total income 

from change in value of the asset than does replacement cost 

d ep r e c i a t i o n . This may at first appear to be a 

contradiction, since it has just been demonstrated that 

replacement cost depreciation is a better measure of real 

depreciation. However, when real gains (or losses) are not 

realized, inflation adjusted depreciation partially offsets 

that misstatement of income by not allowing depreciation of 

those gains (or losses). Thus, 

.. 

AT= RCD + (AP - iP)Q, and (7') 

AT= IAD + (AP - iP) (Q + AQ) 

For a depreciating asset, 
-15-

Therefore, 

[AD - RCD] > [AT- IADI 

Inflation adjusted depreciation is thus a better measure of 

the total re61 change in value of a depreciable asset. -12/ 

IV. Taxation of Capital Gains 

Many discussions of inflation adjustment for 

depreciation or of replacerrient cost depreciation assume that 

once "real" depreciation is correctly calculated, the problem 

of inflation accounting for depreciable assets has been 

solved. In actual fact, equation (3') forewarns us that 

-12/ Lischer ([91, p. 574) and others state that replacement 

cost depreciation is based on the theory that "depreciation

is the source of replacement funds," while inflation adjusted 

depreciation is ''a device to determine net income more 

accurately." I argue that replacement cost depreciation and 

inflation adjustment depreciation should be compared on an 

income basis alone. Replacement cost depreciation better 

measures the depreciation component of income, but inflation 

adjusted depreciation better measures income due to total 

change in value when real gains and losses are not realized 

on an accrual basis. 
-- -- 

-16-

other variables in particular, capital gains interact 

with the measure of depreciation. If the basis for 

depreciation is adjusted for price changes, then the basis 

for calculating capital gains may also be changed. In this 

section we will discuss some of the possible bases for 

calculation of capital gains and some of the problems posed 

�or capital gains taxation by price adjustments for 

depreciation. All price changes are assumed to take place at 

the rate of inflation, so that price adjusted depreciation 

equals both inflation adjusted depreciation and replacement 

cost depreciation. 

In order to measure price adjusted depreciation, it is 

also necessary to determine the basis of the asset from one 

period to the next. In the context of the equations in 

section 11, 

Easis t = Pt Qt 

Of course, basis undergoes changes from year to year, so that 

adjustments must be made to the basis in year "t" to arrive 

at basis in year "t+l". Following equation (111, 

Basist+l -

- Pt+l Qt+l 

= (Pt+A P) (Qt+A 0) 

= PtQt + (Pt+A Pt) A Qt + A P Qt 

= Basist + Price Adjusted Depreciation 

+ Capital Gains 
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Thus, normal accounting methods of adding negative 

depreciation to old basis to determine new basis would be 

incorrect in the case of price adjusted depreciation; capital 

gains must also be added in order to calculate correctly the 

basis for depreciation in following years. 

If basis value of a depreciable asset is to be adjusted 

by capital gains, then the question arises of how to 

ca-lculate realized capital gains if the asset is ever sold. 

From an income accounting standpoint, the gains themselves 

ought to be adjusted for inflation, and, if real income is to 

be correctly calculated I the basis for calculating gains 

should equal the price-adjusted basis for depreciation. 

However , if non-depreciable assets are not similarly indexed I 

such a procedure would result in a distinction between the 

tax treatment of depreciable assets and non-depreciable 

assets. Were such a distinction to arise in the tax law, it 

would lead to a broad and wholesale effort of property owners 

to convert their assets to depreciable form, -13/ an effort 

not unlike the current effort of many property owners to 

-13/ A similar, but reverse argument, can be made against 

proposals to allow price adjustments for non-depreciable 

assets, but not for depreciable assets. In that case, 

property owners would be encouraged to convert depreciable 

assets to non-depreciable form, e.g., issuing stock for 

depreciable assets, and buying and selling the stock on a 

reg ular bas is. 

-1 
-18-

convert ordinary income into capital gain income. For want 

of better terms, this will be called the “Problem of 

Gold-Platea Machinery. I‘ -14/ 

An alternative is to calculate basis differently for 

purposes of capital gains than for purposes of depreciation. 

Under one approach, basis for capital gains might be 

calculated as under current tax law by adjusting old basis 

for the amount of depreciation claimed each year, i.e., 

Basis t+l = Easist + Et 

t 

, where 

D j equals depreciation claimed in time period j and BasisO 

euuals original basis value of the asset. 

To simplify calculations, let us assume that both the 

rate of physical depreciation and rate of capital gains are 

constants over time, or 

(d is negative); and 

(i is positive). 

-14/ Credit or blame for coining this expression must be 

shared with Mr. Hudson Milner of the Office of Tax Analysis, 

Department of the Treasury. 
-- 

-19-

Then, 

Basist+l = PoQo 

+ Po(l+i)dQo 

+ Po(l+i)2 (l+d)dQo 

+ ... 

+ Po(l+i) t+l(l+d)tdQo 

t 

Let us treat two cases. If the rate of price increzse 

I'i" is greater than the negative of the rate of depreciation 

"d," -15/ then as time approaches infinity, the basis of the 

asset actually approaches negative infinity. In the other 

case, the absolute value of the rate of ciepreciation is 

greater than the rate of price increase, and equation (15) 

collapses to the following expression as time approaches 

infinity: 

Basis = 

L d(l+i)+i.l 

-

15/ This is an approximation. The strict case is defined by

i > -d -di. 
-20-

As might be expected, expression (16) is negative as long as 

the rate of price increase is greater than zero. Only if the 

rate of price increase equals zero do we reach the familiar 

result that long-run basis equals zero after the asset is 

fully depreciated. 

If gains are calculated in this manner, that is, if 

basis value for purposes of capital gains is not also indexed 

�or price increEses, but only adjusted by depreciation 

claimed each year, then there arises a tremendous lock-in 

effect on the holding of depreciable assets. Although there 

may be some lock-in effect under current law, it is not 

nearly as binding a force since basis is never reduced below 

zero. However, when basis for calculation of gains is 

reduced by the value of price adjusted depreciation, each 

asset will actually reach a point of depreciation where the 

tax on the gains from selling the asset is greater than the 

value of the asset. Assets which are no longer useful to a 

firm would be given away rather than sold for salvage value. 

One might think of a compromise approach that would 

prevent basis for purpose of depreciation from differing from 

basis for purpose of capital gains and would prevent basis 

value from being adjusted below zero. For instance, one 

could increase depreciation annually by the rate of 
-- 

-- 

-- 

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inflation, but require basis value to be calculated in the 

normal wayI i.e., 

Dt = Easist-l d (l+i) I 

but Basist+l = Basist - Dt 

There is another name for this accelerated depreciation. 

The only difference between equation (18) and other familiar 

expressions for accelerated depreciation is that the annual 

adjustment for acceleration is (1+i) rather than some 

constant like 121) percent. In effect, without a price 

adjustment for the basis of depreciation, this approach 

yields little difference from historical cost depreciation. 

A final approach and perhaps the most practical one 

in a tax world in which indexing is only allowed for 

depreciation is to calculate basis and adjustments to 

basis differently for capital gains than for depreciation. 

Thus, the basis for capital gains would not equal the basis 

for depreciation; neither would capital gains basis be 

adjusted by the amount of inflation adjusted depreciation 

taken each year. For instance, an asset might be allowed 

inflation adjusted depreciation as defined in the previous 

section, while, at the same time, the capital gains basis 

would be calculated by subtracting a measure of depreciation 

-1 
-22-

which was not inflation adjusted, e.g. , straight-line 

depreciation on historical cost. This would lessen the 

incentive to convert all assets into depreciable form (as 

would occur with inflation adjustment for capital gains basis 

of depreciable assets) and avoid a perverse lock-in effect 

(as would occur. if historical basis for purposes of capital 

gains were adjusted by inflation adjusted depreciation taken 

each year) . 

This final alternative seems the only practical one in a 

tax world in which the prices of non-depreciable assets are 

not indexed for inflation. Still, there are a number of 

problems. Inflation adjusted depreciation with a non-indexed 

basis for capital gains would create distortions in 

investment behavior. Depreciable assets clearly would be 

favored over non-depreciable ones. Inflationary capital 

gains on depreciable assets would escape taxation by being 

depreciated to zero, while for non-depreciable assets, such 

gains would be taxed if the asset was ever sold or otherwise 

realized through the flow of income. If we again assume that 

change in price equals the rate of inflation, then inflation 

adjusted depreciation would cause income subject to tax to 

equal real income from the depreciable asset (see equation 

9). For a non-depreciable asset, however , income subject to 

tax would still include an inflationary component. 
-23-

v Conclusion 

We have come full circle on the question of price 

ad] usted depreciation. Replacement cost depreciation 

correctly measures the depreciation component of real income. 

However, income to a firm arises from all changes in value of 

its assets, not just those caused by depreciation, physical 

or otherwise. Thus, changes in prices of depreciable assets 

may reflect real capital gains and losses on those assets as 

well as inflationary gains. In absence of recognition or 

realization of all changes in value as they accrue ,’ adoption 

of a rule allowing for replacement cost depreciation would 

lead to a worse calculation of real income than would 

inflation adjusted depreciation. 

Even if basis increases only reflected inflation, there 

remains the question of how to calculate capital gains in a 

world of price adjusted depreciation. If basis value of 

assets for purposes of capital gains is the same as basis 

value for purposes of depreciation, then it would not merely 

be depreciation that was indexed, but capital gains on 

depreciable assets as well. Yet, if gains on depreciable 

assets were to be indexed for inflation, and not gains on 

other assets, then firms and individuals would make 

substantial efforts to convert non-depreciable assets into 
-- 

-- 

-24-

depreciable form. In some cases, these shifts would be 

somewhat superficial in nature. In a sense, machinery would 

become "gold-plated .'I 

Yet if gains on depreciable assets were not indexed for 

inflation, and historical capital gains basis were adjusted 

by the full value of claimed depreciation, then basis value 

. of these assets would fall below zero, and eventually the tax 

on the nominal gains would be greater than the value of the 

assets themselves. Firms would become further "locked-into" 

their assets. 

The final alternative seems to be to adjust basis �or 

depreciation by an inflation factor, but to adjust capital 

gains basis only by some rate of historical cost depreciation. While probably the only practical way to allow for 

price adjusted depreciation in absence of indexing of all 

income from capital, this solution still leads to distortions, especially the favoring of depreciable over 

non-depreciable assets. 

In summary, if indexing is to apply only to depreciable 

assets and there are strong, practical reasons not to 

extend indexing to other assets, interest payments and 

receipts price adjustments for depreciation, if adopted, 

should not be based upon replacement cost but rather on 
-25-

restatement of historic cost and past depreciation in the 

current period's prices. Basis for capital gains, however, 

must remain on historic cost terms. 

-* 
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Bibliogr 

[ll Aaron, Henry J., ed., ------I--Inflation and the Income Tax 

(Washing ton: Brookings Institution, 1976) 

[21 Beidleman, Carl R. "Economic Depreciation in a Capital 

Goods Industry," National Tax Journal XXIX (December, 1976) 

pp. 379-390. 

[31 Break, 'George F. and Pechman, Joseph A., Federal Tax 

Reform: The Impossible Dream? (Washington: The Brookings 

Institution, 1975) 

[4] Coen, Iiobert M., "Investment Behavior, The Measurement 

of Depreciation and Tax Policy," American Economic Review LXV 

(March, 1975) pp. 59-74. 

[51 Eisner, Robert "Components of Capital Expenditure: 

Replacement and Modernization versus Expansion," Review of 

Economics and Statistics 53 (February, 1971), pp. 49-58. 

[63 Feldstein, Martin and Rothschild, Michael "Towards an 

Economic Theory of Replacement Investment ,I1 Econometr ica 42 

(1974) pp. 393-423. 
------- 

-27-

[71 Hulten, Charles R. and Wykoff, Frank C. "On the 

Feasibility of Equating Tax to Economic Depreciation," 1978 

Compendium of Tax Research (Washington: U.S. Department of 

the Treasury, 1978) pp. 91-120. 

[8] Jorgenson, Dale W. "Capital Theory and Investment 

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1963) pp. 247-259. 

[91 Lischer, Henry J. Jr: "Depr ec i at ion Po 1icy : Wh i th e r 

Thou Goest," Southwestern Law Journal 32 (June, 1978) pp. 

545-603. 

[lo] Samuelson, Paul A. "Tax Deductibility of Economic 

Depreciation to Insure Invariant Valuations ,'I Journal of 

Political Economy 72 (December, 1964) pp. 604-606. 

[111 Shoven, John B. and Bulow, Jeremy I. 'I Inflation 

Accounting and Non-f inancial Corporate Profits: Physical 

Assets," Brookings Papers on Economic Activity 3 (1975) pp. 

557-598. 

1121 Smith, Vernon L. "Tax Depreciation Policy and 

Investment Theory," International Economic Review 4 (1963) 

pp. 80-91. 

[131 U.S. Department of the Treasury, Asset Depreciation 

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