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Lending to the Borrower from Hell: Debt and Default in the Age of Philip II

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  • Mauricio Drelichman
  • Hans‐Joachim Voth

Abstract

Philip II of Spain accumulated debts of over 50% of GDP. He also failed to honor them four times. We ask what allowed the sovereign to borrow much while defaulting often. Earlier work emphasized either banker irrationality or the importance of sanctions, in line with Bulow and Rogoff (1989). Using a unique dataset on 438 lending contracts derived from the archives, we show that neither interpretation is supported by the evidence. What sustained lending was the ability of bankers to cut off Philip II’s access to smoothing services. Lenders contracted with the king in overlapping syndicates, effectively creating a network of bankers. We analyze the incentive structure that supported the cohesion of this bankers’ coalition, and examine how it survived across the biggest defaults in Philip’s reign. In particular, we argue that the effectiveness of lending moratoria was sustained through a ‘cheat-the-cheater’ mechanism, in the spirit of Kletzer and Wright (2000). Since the king needed to smooth his expenditure in the face of major revenue and spending shocks, the ability of bankers to cut him off from funding was sufficient to sustain cross-border lending.

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File URL: http://hdl.handle.net/10.1111/j.1468-0297.2011.02442.x
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Bibliographic Info

Article provided by Royal Economic Society in its journal The Economic Journal.

Volume (Year): 121 (2011)
Issue (Month): 557 (December)
Pages: 1205-1227

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Handle: RePEc:ecj:econjl:v:121:y:2011:i:557:p:1205-1227

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Citations

Blog mentions

As found by EconAcademics.org, the blog aggregator for Economics research:
  1. Lending to the borrower from hell
    by Economic Logician in Economic Logic on 2009-01-08 18:04:00
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Cited by:
  1. Drelichman, Mauricio & Voth, Hans-Joachim, 2011. "Serial defaults, serial profits: Returns to sovereign lending in Habsburg Spain, 1566-1600," Explorations in Economic History, Elsevier, vol. 48(1), pages 1-19, January.
  2. Johnson, Noel D. & Koyama, Mark, 2014. "Tax farming and the origins of state capacity in England and France," Explorations in Economic History, Elsevier, vol. 51(C), pages 1-20.
  3. Mark Aguiar & Manuel Amador, 2013. "Sovereign Debt: A Review," NBER Working Papers 19388, National Bureau of Economic Research, Inc.
  4. Vesperoni , Alberto, 2013. "War Finance and the Modern State," NEPS Working Papers 6/2013, Network of European Peace Scientists.
  5. Mauricio Drelichman & Hans-Joachim Voth, 2013. "Contingent Sovereign Debt Contracts: The Historical Perspective," CESifo DICE Report, Ifo Institute for Economic Research at the University of Munich, vol. 11(3), pages 28-32, October.
  6. Rohan Pitchford & Mark L. J. Wright, 2013. "On the contribution of game theory to the study of sovereign debt and default," Oxford Review of Economic Policy, Oxford University Press, vol. 29(4), pages 649-667, WINTER.
  7. Peter Benczur & Cosmin Ilut, 2011. "Evidence for Dynamic Contracts in Sovereign Bank Lending," Working Papers 11-06, Duke University, Department of Economics.

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This item is featured on the following reading lists or Wikipedia pages:
  1. Asiento in Wikipedia (Finnish)
  2. Asiento in Wikipedia (English)
  3. Asiento in Wikipedia (Turkish)
  4. Economic Logic blog

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