Every year the cost of inflation index is used to calculate the amount of tax which is to be levied on an asset which is sold. The assets which are sold within the time frame of less than 1 year to less than 3 years come under short term capital gain. The assets which are sold within the time frame of more than 3 years come under the long term capital gain.
On short term capital gain, there is no indexation allowed and the proceeds i.e. the profits are to be shown as your regular income. However, on long term capital gain, the income tax department allows you to add indexation, the meaning of the same is since there is inflation which results in the reduction of the value of rupee, the cost to acquire the asset has risen every year it was in your possession. So if the cost to acquire an asset in 2000 was Rs. 1,00,000 than in 2018 because of inflation the cost to acquire the same asset will become more.
How the cost to acquire the asset today is calculated is called cost inflation index.