Lending to the Borrower from Hell: Debt, Taxes, and Default in the Age of Philip II (The Princeton Economic History of the Western World)

by Mauricio Drelichman

  24 In our account of the discussions between Moura, Poza, and Philip II, we follow the work of Sanz Ayán (2004).

  25 For a detailed account of the 1575 bankruptcy and its ensuing settlement, see Lovett 1980, 1982. We further explore it in chapter 5.

  26 For a summary of the events following the suspension, see Ulloa 1977, 820.

  27 This was a common theme. Writing in 1638, Venetian merchant Giovanni Domenico Peri (1672) described the effects of the 1627 bankruptcy as follows: “Oltre la rovina degli Assentisti, hanosi questi ritirato a dietro molti, che gli soccorevano di rivelantissime partite, e fra gli uni, e gli altri, sono restate esterminate molte ricche famiglie, e molte Vedove, e pupilli insiememente ridotti a miserabile povertà” (In addition to the ruin of the bankers, several other financiers who provided them with funds exited the business. Between one and the others, many rich families were exterminated, and many widows and orphans were at the same time reduced to miserable poverty).

  28 ADG, Inventario Doria, 490. “Registro copialettere di Ambrogio D’Oria 1590/1597 piú alcuni scritti vari posterirori del 1657/1670.”

  29 For an overview of the impact of the provision of la misma moneda on Genoese firms and individuals, see Neri 1989. For investors to receive their initial capital outlay, juros would need to be sold. This was possible with royal permission, which could be obtained for a fee.

  30 The decision to suspend payments was made as early as November 9, 1596, when secret instructions were issued to embargo the treasure at the Casa de la Contratación and suspend other payments. On that date, the Casa de la Contratación sent a million ducats in bullion to Milan, and from there the Fugger bank transferred it to Flanders in April 1597 (Ulloa 1977, 820).

  31 Crown bankruptcies resulted in a liquidity crunch, typically bringing payment fairs throughout Europe to a halt. See Pezzolo and Tattara 2008; Marsilio 2008.

  32 The thesis that the 1596 bankruptcy was largely the result of an accounting error was first introduced by Alvaro Castillo (1972) and then taken up by Juan Gelabert (1997).

  33 AGS, Contadurías Generales, Legajo 93. “Francisco y Pedro de Maluenda, Nicolao Doria, Marco Antonio Judice, Nicolao de Fornari, Juan y Francisco Galeto y otros sus consortes.” It is interesting to note that because this was a new loan, the extraordinary compensation accrued only to the Madrid financiers and not to their downstream investors who had been affected by the default.

  34 For our exploration of the overall Pichenotti–Di Negro venture as well as its upstream and downstream impact, see Drelichman and Voth forthcoming.

  35 Spain and Castile, its predecessor state, defaulted thirteen times between 1500 and the present (Reinhart and Rogoff 2009).

  36 See, for example, “The Dark Side of Debt,” Economist, September 23–29, 2006.

  37 Parker (1998) tabulates the different campaigns of Philip II.

  38 Estimates of Castilian population in the sixteenth century vary. We use the “consensus estimates” in Alvarez Nogal and Prados de la Escosura 2007; a discussion of alternative figures can be found in this source as well. Population growth in a Malthusian world is a direct measure of economic growth (Ashraf and Galor 2011).

  39 For a historical analysis of Castile’s ascendancy in the sixteenth century, see chapter 2.

  40 Chapter 3 provides an overview of fiscal institutions, and chapter 4 reconstructs the yearly fiscal accounts of Castile.

  41 We describe Castilian debt instruments in detail in chapter 4.

  42 One of the stanzas of the famous letrilla “Don Dinero” by Francisco de Quevedo reads: “Nace en las Indias honrado / donde el mundo le acompaña / viene a morir en España / y es en Génova enterrado.”

  43 We present our revenue series in chapter 4.

  44 We present our series of military expenditures along with a full list of sources in chapter 4.

  45 For two notable sources for these data, among many others, see Alvarez Nogal and Prados de la Escosura 2007; Thompson 1976, 1994a.

  46 These data are found in several sources; we use Artola 1982.

  47 Some of the long-term bonds could be in poor standing, such as those issued against revenues from the Casa de la Contratación. These typically traded at a 40 to 50 percent discount, suggesting that interest payments were not always made as promised (Ehrenberg 1896; Ruiz Martín 1965).

  48 Ulloa (1977) provides summary annual figures of short-term debt, which unfortunately suffer from double counting issues. These originated from conflating summary information for loans taken out by field commanders in Flanders with documents issued at the Court. For details, see chapter 4.

  49 Ramón Carande (1987) conducted a similar effort for the reign of Charles V. More studies are available for the seventeenth century. Alvarez Nogal (1997) studied lending to the Crown in the times of Philip IV; Sanz Ayán (1998) did likewise for the reign of Charles II; and Gelabert (1999a) covered the period between 1598 and 1650.

  50 AGS, Ministry of Education, Culture and Sport of Spain, 2012. http://www.mcu.es/archivos/MC/AGS/Presentacion/Historia.html (accessed August 8, 2012).

  51 While the archive was for the most part well cared for throughout its history, it did see rough times as well. It is said that during the Napoleonic invasions, French soldiers used the papers as bedding for their horses. Some of the missing documentation might have suffered this particular fate.

  52 The main asiento data are fully described in chapter 4.

  53 While Roman politicians were frequently deeply indebted, the Roman treasury sold no bonds or bills (Frederiksen 1966).

  54 As in the case of the dukes of Prussia (a fief of the Polish Crown), who also were subjects of the Holy Roman emperor.

  55 Juros—annuities or perpetuities backed by specific revenue streams—had existed since at least the fourteenth century. In their early incarnations, they were royal grants given in exchange for political loyalty or military service. In the late fifteenth century, they assumed all the characteristics of sovereign debt: they were sold for cash, a seniority system was established, and they were allowed to trade in a secondary market (albeit in exchange for a fee). See Toboso Sánchez 1987. See also our discussion in chapter 3.

  56 According to Stasavage (2011), the size of a state was crucial; only relatively compact territories allowed representatives to travel frequently to assemblies, voicing their concerns and overseeing spending.

  57 The view that political absolutism in the early modern period was synonymous with rule by an omnipotent despot has been increasingly questioned in the literature. Instead, a closer look at the practice of government reveals that absolutism is best described as a social arrangement to the mutual benefit of both the elite and Crown (Mousnier 1979).

  58 “Nervos belli, pecuniam infinitam” (Brewer 1988).

  59 For example, France under Louis XIV spent 20 to 30 million livre tournois per year on nonmilitary budget items; military spending in peacetime was approximately 50 to 60 million, and reached peaks of 140 and 190 million during the Nine Years’ War and the War of Spanish Succession (Velde 2003). These figures exclude debt service (which mostly went on paying debts run up during earlier wars).

  60 Similarly, cities increasingly paid their citizens for military services that were initially simply an obligation associated with citizenship (Stasavage 2011).

  61 One of the most effective revenue services, the British Excise and Customs Office, employed more than eight thousand officials directly by the end of the eighteenth century.

  62 The states included are England, France, Venice, Prussia, Poland, the Dutch Republic, Spain, Austria, and the Ottoman Empire (taken from Karaman and Pamuk 2010).

  63 We review the genesis and aftermath of the Comuneros Revolt in detail in chapter 2.

  64 After Alfred Lord Tennyson’s line: “a single breaker may recede; but the tide is evidently coming in.” This is not to say that most countries overcame hurdles like internal customs barriers with ease. In Germany and Italy, territorial fragmentation lasted in
to the nineteenth century; in France, customs barriers persisted through the fall of the old regime. For a quantitative analysis, see Dincecco 2011.

  65 Myron Gutmann (1980) argues that in areas that saw extended warfare, such as the Basse-Meuse region of France, the economic structure could successfully adapt to the presence of armies and occasional fighting.

  66 Patrick O’Brien (2003) contends that Britain’s rise as an industrial power owed much to its bellicose and mercantilist policies. The evidence to support this claim is at best mixed.

  67 These are the words of Don Bernardino de Mendoza, a sixteenth-century soldier and diplomat. The escudo, or ecu, was a coin and unit of account used throughout Europe.

  68 Reinhart and Rogoff (2009) show that the range since 1845 is one to seventy-eight years, with a median of six years before 1946 and three years thereafter.

  69 For a detailed discussion of this point, see chapters 6 and 7.

  70 There are some cases of sovereign lending in the late twentieth century that were even more profitable for investors (over relatively short periods) than lending to Philip II; we discuss them in more detail in chapter 8.

  71 While Philip II ruled for over forty years, we only have data for thirty-one years of his reign.

  72 For two prominent examples, see Braudel 1966; Reinhart and Rogoff 2009.

  73 We present the evidence for this argument in detail in chapter 5.

  74 For the standard application of cheat-the-cheater strategies to sovereign lending, see Kletzer and Wright 2000. The Genoese network itself was a coalition in the style described by Avner Greif (1993).

  75 The king was also not above killing his opponents, as is illustrated by the case of the Counts of Egmont and Horn. They were decapitated in Brussels after a rigged trial.

  76 The Greek debt crisis of 2011 has shown that creditors are willing to relax this standard somewhat, agreeing to some amount of debt relief—and hence a noncompliance with assumed obligations—to avoid an outright default.

  77 In the theory of constant recontracting, the only firm commitments that the parties can make are the payments being exchanged at the signing. Everything else is an expression of intent, which might or might not be honored. In the parlance of economics, these expressions of intent are called “cheap talk.” We avoid the term because it conveys that the letter of the contracts is worthless. In reality, it represented the best guess that bankers and the Crown could make about a highly uncertain future. In chapter 5, we review the theory of sovereign debt, including the role of constant recontracting in it.

  78 There is convincing evidence that economic agents can valuate complex financial derivatives quite accurately, even in the absence of the necessary mathematical knowledge. For an example involving the pricing of warrants before the development of the Black-Scholes formula, see Moore and Juh 2006.

  79 Douglass North and Robert Paul Thomas (1973) used Spain as an example of a rent-seeking society. Daron Acemoglu, Simon Johnson, and James Robinson (2005) code Castile as being an absolutist state. For additional instances of this view, see Landes 1998; De Long and Shleifer 1993; Ekelund and Tollison 1997. North (1991) subsequently qualified his position to reflect that the king was in fact constrained by the Cortes.

  80 Chapter 3 explores the balance of power between the Crown and Cortes.

  81 For an overview, see Kagan 1981. For an example of how judicial decision making influenced economic efficiency, see Drelichman 2009.

  82 This choice was largely dictated by data availability, but it also makes sense. Looking at each state during its period of peak power offers a more comparable scenario than using the same period as a baseline. For a detailed analysis, see chapter 8.

  CHAPTER 2

  PHILIP’S EMPIRE

  THE FOUNDATIONS OF EMPIRE

  It was a cold autumn night in October 1469. Two Castilian gentlemen sat down at an inn near the Aragonese border and ordered a hot meal after a long day of travel. Their servant, a shabbily dressed young man in his late teens, took their traveling clothes and then went to tend to the mules outside. A few tables over, two scruffy characters were drinking cheap wine and gambling at cards. What could have been an everyday scene in any inn on the Iberian Peninsula contained the seeds of high political drama. The seedy-looking men were actually working for Bishop Pedro González de Mendoza, a powerful Castilian nobleman close to King Henry IV. They as well as many other spies were keeping a close eye on any unusual travelers about to cross the border. Little did they know that the man they were looking for was right there under their very eyes, sleeping in the stall with the mules. The gentlemen whose servant he pretended to be were Gutierre de Cárdenas and Alonso de Palencia, trusted advisers of Isabella, crown princess of Castile. Their young charge, unrecognizable in his dirty muleteer rags, was none other than Prince Ferdinand of Aragon. Isabella, ignoring the wishes of most of the Iberian Peninsula’s political establishment, had chosen him as her husband.1

  Isabella had no shortage of suitors. King Henry IV, Isabella’s half brother, favored a union with the crown of Portugal through a marriage with King Alphonse V, which also had the support of a large part of the Castilian nobility. Other candidates included the king of Navarre and the Duke of Berry, brother to Louis XI of France. Isabella’s advisers had been secretly negotiating the conditions of her marriage to Ferdinand with King Juan of Aragon since January 1469. In May, the princess, who had been closely watched by King Henry’s men in the town of Ocaña, managed to escape to Valladolid under false pretenses. There she lived at the fortified palace of the Vivero family while waiting for Ferdinand. The groom finally arrived in early October. After the introductions and all-important signing of the marriage capitulations, they were married on October 19. While traditional accounts speak of a “secret” wedding, the description scarcely fits the celebration: some two thousand guests attended the exchanging of vows. The marriage of Ferdinand and Isabella was soon to have crucial repercussions the world over.

  By displaying a mind of their own, Isabella and Ferdinand made a bold move. They alienated Henry IV, from whom Isabella had agreed to obtain consent before marrying. They also risked an ecclesiastical annulment, as they were second cousins and the pope had been reluctant to grant a dispensation for fear of angering Henry.2 More important, by going against the desires of the Castilian nobles, they all but guaranteed a war of succession after Henry’s death. Their victory and consolidation as the joint monarchs of Castile and Aragon would not come until 1479, when a peace treaty with Portugal settled the dynastic claims to the Castilian Crown.

  Bold and unusual as the marriage of Isabella and Ferdinand was, its most significant consequences could not have been foreseen at the time. The great overseas discoveries and power struggles associated with them were still more than two decades in the future. Had Isabella married Alphonse V of Portugal, there might have been a single Iberian merchant empire in the centuries to come. Yet Castile and Portugal continued their rivalry, with the treaty of Tordesillas demarcating their areas of influence in the New World in 1494. Moreover, after the marriage of Ferdinand and Isabella, a series of agreements—both tacit and explicit—recognized Castile’s exclusive sovereignty over all territories conquered in the future.3 Conquest in medieval and early modern Europe typically involved small territories, and the negotiators clearly had in mind the completion of the Reconquista, or minor acquisitions in North Africa. They could hardly have imagined that within three short decades, vast parts of the globe on three continents would come under Castilian influence.

  In general, the relationship between Castile and Aragon was structured as an association of equals, with each retaining their separate crowns, councils, and representative assemblies. Their combined might and the elimination of their rivalry, however, allowed Ferdinand and Isabella to concentrate substantial powers in their hands. This strengthened the institution of the monarchy. Ferdinand and Isabella shed many of the medieval structures of administration, modernizing the apparatus of the
state and preparing it for the coming expansion.

  The first step was to bring the nobility under control. Shortly after acceding to the throne, Isabella and Ferdinand launched a sweeping reform of the annuities from which many noble families derived a substantial part of their income. The reforma de mercedes of 1480 had the double impact of rescinding many of these annuities—hence limiting the economic power of the upper nobility—while also wrestling their administration from tax farmers and placing it into the hands of royal accountants.4 The monarchs also revoked most of the petty nobility privileges that Henry IV had granted in an attempt to shore up support for his reign.5 Finally, the creation of a national militia—the Santa Hermandad—and professional army units—the famed tercios—stripped nobles of their central feudal role as military entrepreneurs.6 The Santa Hermandad resulted from an agglomeration of the local militias, or hermandades, that were organized in the Middle Ages as a form of local law enforcement. They were often seen as symbols of the resistance of townships against seigniorial power. The Catholic Kings united them in a kingdom-wide organization with a more solid financial structure.7 Tercios, first used in the Italian wars of the 1490s, were professionally staffed regiments designed to stand up to cavalry charges by adopting an improved version of the Swiss pikemen fighting technique. They became fearsome units during the Dutch War of Independence. While the nobility did retain considerable influence, that influence was increasingly ordained, vetted, and regulated by the monarchy, rather than stemming from military and financial functions within the structure of the state.

  A second major step in state building was to bring the church more firmly under royal control. Since the fourteenth century, radical elements in the ecclesiastical hierarchy had expressed their discontent with the Crown by staging pogroms against Jews and Muslims. By providing a formal channel to repress religious minorities, the establishment of the Inquisition in 1484 put an end to the popular uprisings. Firmly entrenched in the Crown’s orbit, the Inquisition thus transformed a challenge to monarchical control into a tool to project royal power.8 Isabella and Ferdinand were staunch defenders of the Inquisition in its early years—a stance that contributed to Pope Alexander VI granting them the title of Catholic Kings. Next, Ferdinand obtained the right of royal patronage in 1508. This gave the king vast powers over the operations of the church, including the appointment of its authorities, the funding of its works and activities, and control over some of its revenue streams. More than half a century later, Philip II would build on this authority to effectively convert the church into a fiscal arm of the Crown.