We revisit the twin deficits hypothesis by examining the long-run
cointegrating relationship between the US budget and trade deficits
across various quantiles using a unique dataset for the period
1791–2013. The main results suggest the existence of nonlinearities
and structural breaks in the relationship between the trade
and budget deficits, indicating that the long-run relationship
between the two variables has not been constant overtime.
Furthermore, we find evidence in favour of the twin deficits
hypothesis. Finally, the results suggest that the cointegrating
coefficient in the long-run relationship between the two variables
is not constant across different quantiles. In fact, we find that an
increase in the budget deficit will have a greater effect on the
trade deficit at quantiles below the median than at higher quantiles,
suggesting that the effectiveness of restrictive fiscal policies
directed to reduce trade deficits will depend on the actual size of
the budget deficit.