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There are some arguments that Spain over-exploited the precious metal deposits of the new world, leading to wide-scale inflation. This, coupled with their expulsion of Jewish money lenders, caused their economy to collapse. I am confused as to how this happened, or were the reasons that the Spanish empire collapsed unrelated to the wealth they got?

I am mainly confused as to how Spain, with access to the wealth of an entire continent, failed to simply dominate the entirety of Europe and could not even deal with the Barbary pirates raiding her shores.

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To the closer, could you explain why. Causes of Spanish collapse is a major historiographical debate afair. –  Samuel Russell Jun 14 '13 at 1:26
    
Expulsion of money lenders would have opposite effect compared to gold excess. –  Anixx Jun 14 '13 at 7:35
    
The Spanish Empire, Silver, & Runaway Inflation: Crash Course World History #25 - youtu.be/rjhIzemLdos –  Caesar Jun 14 '13 at 8:39
    
@Caesar I've seen that video, it doesn't explain much –  Evil Washing Machine Jun 14 '13 at 18:23
    
@SchwitJanwityanujit Really? Because he talks about how the silver caused inflation in Spain and how all that wealth made them go into all types of wars attempting to conquer Europe and how it lead to them going bankrupt 4 times. I don't know what more you were looking for. –  Caesar Jun 14 '13 at 20:17

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up vote 13 down vote accepted

Nial Ferguson in the Ascent of Money cites Spain as the canonical case of a state that just doesn't get economics.

Philip II of Spain defaulted on debt four times - in 1557, 1560, 1575 and 1596 - becoming the first nation in history to declare sovereign default due to rising military costs and the declining value of gold, as it had become increasingly dependent on the revenues flowing in from its mercantile empire in the Americas.

Let me emphasize "the declining value of gold" - gold has very little intrinsic value. When gold is used as a medium of exchange, the value is set by the market, and adding more gold will only generate inflation. Inflation encourages borrowing and discourages lending; the tension between those two hampers the ability of the economy to invest, or even to spend money wisely. (I lack the background in Spanish history to draw the relationship between the effects of inflation and the expulsion of the Jews, but it seems to me that there may be an interesting story there.) (There is also probably an interesting paper on macroeconomic errors of a mercantile economy, but I have neither the skill, nor the time, nor the space, to write that paper.)

Adding specie to an economy doesn't enable the country to spend the money wisely. To defeat the Barbary pirates, Spain would have had to construct a superior fleet. Fleet building is a long term investment - even if you can produce the ships quickly, you need to produce professional sailors, admirals and tactics, and you have to ensure that the fleet is supported by solid logistics. That kind of investment is difficult to make in times of high inflation. In an environment where the throne regularly defaults, I would suggest that it is imprudent to participate in such a long term investment.

I think it would also be interesting to examine the actual inflow of specie compared to the expected inflow of specie. I think that the Spanish Throne and the Spanish economy probably reasoned as you do that they had access to the "wealth of a continent". In truth they had a capital inflow - large, but limited. In order to make use of the wealth of the continent, they would have to borrow against future inflows, and lending to the Spanish throne was not a good idea. Furthermore I'm not sure that they accounted for the rising cost of obtaining and defending that capital inflow.

Complex question, and I'm sure that there are many book-length answers.

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Why were they forced to default when they had all that gold? This is not even counting all the produce of their colonies, like sugar, tobacco, cotton, which can all be sold for a high margin in European markets. –  Evil Washing Machine Jun 14 '13 at 17:56
    
They were in debt, and they couldn't make the payments. I don't have citations, but we can infer that they borrowed against future gold inflows. Like a lottery winner who spends faster than the money comes in, eventually the debt catches up. –  Mark C. Wallace Jun 14 '13 at 18:17
    
Ah ok. I've upvoted your answer, but I haven't accepted it just in case someone has a more indepth response :) –  Evil Washing Machine Jun 14 '13 at 18:24

John Maynard Keynes indirectly answered this question in his 1930 essay "Economic Possibilities for our Grandchildren," http://www.econ.yale.edu/smith/econ116a/keynes1.pdf, in which he traced the development of Britain's capital account directly to the capture of Spanish Treasure by Sir Francis Drake. Essentially Queen Elizabeth I was able to pay off the (remaining) national debt and invest 40,000 pounds. Given the "typical" one-fifth royal share, the total amount was somewhere over 200,000 pounds for British investors in Drake's "venture," with even greater losses for the Spanish.

Basically, gold shipments made Spain feel wealthier than they actually were. Or put another way, they had budgeted for X, and were X-200,000 pounds poorer after Drake's depredations. Overspending (or losing) a large part of one's budget is a sure way to economic decline.

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-1 - your answer doesn't indicate what "X" was. If it was 201,000, or 200,200,000, makes a MAJOR difference –  DVK Jun 19 '13 at 20:40
    
Although this surely was a big blow, I don't think this was the reason, because then Spain would have first prospered and then defaulted once, and then prospered again. They didn't. –  Lennart Regebro Aug 11 '13 at 11:26

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