The Twin Deficits Hypothesis

A government running a budget deficit spends more than it collects in taxes and must borrow to cover the gap. The twin deficits hypothesis says this fiscal deficit tends to show up alongside a current account deficit — the country importing more goods, services, and capital income than it exports — because a national accounting identity ties the two together: a country's overall saving (private plus government) minus its overall investment must equal its current account balance. If the government saves less (runs a bigger deficit) and private saving doesn't rise to offset it, the country as a whole needs more foreign capital, which shows up as a current account deficit.

$$(S_{\text{private}} - I) + (T - G) = \text{Current Account}$$

In words: private saving minus private investment, plus government tax revenue minus government spending, must equal the current account balance — so a larger government deficit ($G$ exceeding $T$ by more), with nothing else changing, mechanically pushes the current account further into deficit.

The relationship isn't automatic in practice — private saving can rise to offset a bigger government deficit (a version of "Ricardian equivalence"), which is why the U.S. has at times run a large budget deficit without a proportionally larger current account deficit. Still, the identity means the two cannot be fully independent: a persistent large fiscal deficit, absent an offsetting rise in private saving, tends to require financing from abroad, which is the mechanism linking the "twin" deficits.