For more than a year, I have been predicting?not advocating, just predicting?a significant tax increase to deal with the budget deficit. My hypothesis has been that sooner or later financial markets would put pressure on Congress to act on the budget deficit, and that the magnitude of the problem would be too great to deal with on the spending side alone.
I was unsure where, when or how this financial market pressure would arise. But it now seems clear that it will come through the foreign exchange market. The dollar has been dropping rapidly and this is setting in motion forces that eventually will impact on domestic stock and bond markets. The possibility of a major crash cannot be ignored.
The root of the problem is the U.S. current account deficit, which includes the trade balance for goods and services, plus receipts on U.S. investments broad minus payments to foreigners on their investments here. There is also a large negative figure for unilateral transfers abroad, such as those for military programs and foreign aid.