Honestly, I'm a bit torn.
I think the OP has a point, and I certainly sympathize with his situation. I don't know that I agree that a violent mentally ill person is less dangerous or threatening than your average street tough (if nothing else, I have some sense that I could reason with such a person, or give them my wallet, or that they would back down if law enforcement made an appearance), but I also recognize that a violently mentally ill person wandering the streets unrecognized and untreated is far more likely to be dangerous than the one who has actually been admitted to a hospital and undergone treatment- that is, not the sort of person who might be wearing a straight jacket.
And is there a lot of ignorance in the view of the mentally ill? Absolutely.
But on the other hand, the "dangerous psychotic" remains an incredibly popular source for scary villains in books, movies, and television, and I don't think it's going away any time soon. And I wonder how much redesign would be necessary before the OP would find the costume inoffensive- a name change? Losing the straight jacket?
Halloween is one night a year, and arguably it's a time when it's societally acceptable to purge our fears- including ones that we quite frankly recognize as irrational. I'm less and less confident that we actually address or diminish stereotypes by simply saying "don't present person type 'x' this way"; sometimes, it seems like we just polarize people further, causing some to become more antagonistic and giving others an excuse to demonize and dismiss anyone who feels that way.
In short, yes, I'd like to see more public education about mental illness, and I'd be willing to see changes made in such a costume to make it less offensive to those offended, but I wouldn't simply have it go away; I'm not sure it would be beneficial.