The curse of Moctezuma: American silver and the Dutch disease

Abstract

This study formalizes and empirically tests the conjecture that the discovery of large silver reserves in its American colonies during the 1540s triggered in Spain a case of Dutch disease, diverting factors of production to non-traded goods industries and undermining the Spanish comparative advantages in the Early Modern Age. I develop an open-economy model to mimic the economic conditions in Imperial Spain. I then present new consumption weights built from primary sources, which I combine with existing price data to produce price indexes for traded and non-traded goods; these are then used to test the implications of the model in a Markov-switching regression framework. I identify a strong and persistent increase in the relative price of non-traded goods coinciding with the silver discoveries, lasting for almost three decades and reversing itself only after the 1575 and 1579 crown bankruptcies.