THE ROOTS OF MARKETS & WEALTH

From time to time I have been posting sections from my book project, The Roots of Markets & Wealth. The section below (which may not make the final cut) contrasts the financial challenges empires face as they try and maintain their position in the global arena. In line with this post, Don Quixote is to the left ...


... After conquering the gold-laden Aztec and Incan Empires the Spaniards went on a spending binge. What they didn’t do was develop the capacity to produce goods that would make them competitive during the commercial and industrial revolutions of the 18th and 19th centuries. Why should they? With an “unlimited” source of gold and silver in the mines of Guanajuato, Potosi, and Zacatecas they had found El Dorado. This enabled Spain to purchase what they needed and to conduct affairs as if tomorrow would never arrive. Rather than turning to commerce and industry, as bullion-deprived North American colonialists did, Spaniards focused on extracting resources, purchasing useless titles, and acquiring assets of questionable commercial utility.

By the end of the 17th century, after recklessly spreading their wealth across Europe, Spain retained perhaps 5 percent of the bullion they had extracted from the Americas. Like Don Quixote, the mythical character created by Cervantes, when the Spaniards finally came to their senses it was too late. Inflation arrived in Europe, making the goods Spain sought more expensive. Worse, Spain faced the prospect of competing commercially with their more industrious neighbors – specifically England and France. No amount of commercial treaties, taxes, or other gimmicks could make up for generations of ignoring industry and squandering their economic trump card on castles, monasteries, and global adventures. Like Don Quixote, the Spanish Empire would tilt at the “windmills” of war and debt – finally collapsing at the feet of the Americans in the Spanish-American War.

Fast forward one hundred years. Another empire is in trouble. Believing the sun would never set on its capacity to spread gold-backed dollars across the globe, successive American administrations spread credit and deficit dollars around the world. And why not? After WWII the dollar was considered “as good as gold” and actively sought by allies and traders alike in an American-led trading regime. No longer were the sketchy claims and promises of a John Law, or the convoluted sorcery of scheming alchemists, necessary to create wealth through paper (or other materials).

As long as America paid for the defense of the West, and no viable currency alternatives emerged, dollars would be accepted on demand. This was an arrangement the Spaniards, with all their bullion, could not match. But then again, they never leveraged their gold in an effort to build an international trading regime that others sought to join. Perhaps more importantly, Spain never built a credit superstructure that would allow it to borrow so liberally from its neighbors. These arrangements worked so well that an American vice president would dismiss the idea of paying down deficits (to help support the value of the dollar), claiming “deficits don’t matter.”

By ignoring how its wealth was spread at the beginning of the 21st century – via borrowing and commercial deficits – America now finds itself tilting at the same windmills that confronted Spain ...

- Mark