Foreign Borrowing in 16th Century Spain :: European History Essays

Foreign Borrowing in 16th Century Spain This paper examines the lending by Genoese-led cartel to Phillip II of Spain in the 16th century from the viewpoint of sovereign debt. The Genoese linked specie deliveries from Spain to the Low Countries to lending in order to cartel created a penalty to enforce their loans. If the king tried to renege, the Genoese applied the penalty and the king eventually repaid. I. Introduction Sovereign lending, throughout history, has been marked by occurrences of partial default and repudiation by governments of all kind; from medieval princes to dictators to democratic regimes. In the 1970s lending to lesser-developed countries led to the rescheduling and partial defaults in the 1980s. Even the sustainability of the debt of nations such as Belgium, Canada, Italy and even the United States is not free from suspect. The reign of Philip II of Spain provides a good example to extend our knowledge of sovereign lending. Philip II fought wars through out his reign. To finance fluctuations in military expenditures, he had to borrow extensively. Repeatedly, Philip II’s Genoese lenders had imposed debt ceilings on the Crown. Once after reaching the debt ceiling, the Genoese suspended lending. They further punished Spain by executing a penalty in order to force payment of loans; an embargo on specie delivered to Spain’s armies. The military consequence of the embargo was severe. â€Å"Spain was the predominant military power of the age, and Philip II was the last sovereign to credibly threaten to dominate Europe until Napoleon.(Kennedy p30)†. This played a significant role in testing Philip II’s aspirations in Europe and eventually caused Philip II to cede to the lenders. Sovereign debt theories first must assume the premise that there is no third party enforcers and that lenders must be able to enforce claims on their own. In addition these theories use reputation arising through repeated interaction to generate equilibria. It is only then that lending agreements are made and self-enforcing. Bulow and Rogoff (1989b) show that no lending will occur if the only threat is to cut off future lending. This is because merely the threat to withdraw credit is not a severe enough penalty to prevent the Crown from repudiating his debt. Lenders would then anticipate this, and consequently, they do not lend. There are two classes of models that elaborate on Bulow and Rogoff’s result and provide environments where repudiation does sustain positive debt.