Although Nicaragua had been part of the audiencia (audience or court) of Panama, established in 1538, it was transferred to the Viceroyalty of New Spain when Spain divided its empire into two viceroyalties in 1543. The following year, the new audiencia of Guatemala, a subdivision of the Viceroyalty of New Spain, was created. This audiencia extended from southern Mexico through Panama and had its capital first at Gracias, Honduras, and then at Antigua, Guatemala after 1549. In 1570 the audiencia was reorganized and reduced in size, losing the territory of present-day Panama, the Yucatán, and the Mexican state of Tabasco.

The five-man audiencia, or court, was the highest governmental authority in the territory. During most of the colonial period, the president of the audiencia held the additional titles of governor and captain general (hence, the alternative name of Captaincy General of Guatemala) and was charged with administrative, judicial, and military authority. The governor, or captain general, was appointed by the Spanish king and was responsible to him in fact, the colony was sometimes referred to as the Kingdom of Guatemala.

The audiencia was divided into provinces for administrative purposes, and the leading official in each province was generally called an alcalde mayor, or governor. León was the capital of the Province of Nicaragua, housing the local governor, the Roman Catholic bishop, and other important appointees. An elite of creole (individuals of Spanish descent born in the New World) merchants controlled the economic and political life of each province. Because of the great distance between the centers of Spanish rule, political power was centered with the local government, the town council or ayuntamiento, which ignored most official orders from the Spanish crown.

Throughout the seventeenth century, trade restrictions imposed by Spain, natural disasters, and foreign attacks devastated the economy of the Captaincy General of Guatemala. The local government neglected agricultural production, powerful earthquakes in 1648, 1651, and 1663, caused massive destruction in the Province of Nicaragua, and from 1651 to 1689, Nicaragua was subjected to bloody incursions from English, French, and Dutch pirates. In 1668 and 1670, these buccaneers captured and destroyed the city of Granada, center of the province's agricultural wealth. The Captaincy General of Guatemala was generally neglected by Spain. Within the captaincy general, the Province of Nicaragua remained weak and unstable, ruled by persons with little interest in the welfare of its people.

In the late 1600s, the Miskito, who lived in Nicaragua's Caribbean lowlands, began to be exploited by English "filibusters" (irregular military adventurers) intent on encroaching on Spanish landowners. In 1687 the English governor of Jamaica named a Miskito who was one of his prisoners, "King of the Mosquitia Nation," and declared the region to be under the protection of the English crown. This event marked the beginning of a long rivalry betwee 1000 en Spanish (and later Nicaraguan) and British authorities over the sovereignty of the Caribbean coast, which effectively remained under British control until the end of the nineteenth century.

After more than a century of exploiting the mineral wealth of the New World, the Spanish realized that activities other than mining could be profitable. The Province of Nicaragua then began to experience economic growth based on export agriculture. By the early 1700s, a powerful elite was well established in the cities of León, Granada, and, to a lesser extent, Rivas.

Events in Spain in the early 1700s were to have long-lasting repercussions in Nicaragua. The War of the Spanish Succession (1701-14) resulted in the Bourbons replacing the Hapsburgs on the Spanish throne. The Hapsburgs had supported strict trade monopolies, especially in the Spanish colonies. The Bourbons were proponents of more liberal free-trade policies. Throughout the captaincy general, groups were hurt or helped by these changes the factions supporting changes in trading policy came to be known as liberals while those who had profited under the old rules were known as conservatives. Liberals generally consisted of growers with new crops to sell, merchants, or export interests. Conservatives were generally composed of landowners who had profited under the old protectionism and who resisted new competition. In time, conservatism also became associated with support for the Roman Catholic Church the liberals took a more anticlerical stand.

Throughout the captaincy general, cities came to be associated with one or the other of these political factions, depending on the basis of the economy of each. Typically, each of the five provinces of the captaincy general had one city that championed the liberal cause and another that spoke for the conservatives. In Nicaragua, León was primarily involved in exporting animal products such as leather and tallow and soon became the center for free-trading liberalism. The conservative elite in Granada, however, had made their fortunes under the old protectionist system and resisted change. Competition between the two cities over influence on colonial policy became violent at times, and each city supported armed groups to defend itself and its ideas. In time, the hatred and violence between the two cities and the two factions became institutionalized, and often the original ideological difference was forgotten. Independence in the next century only exacerbated the struggle as it eliminated Spain as a referee. The violent rivalry between liberals and conservatives was one of the most important and destructive aspects of Nicaraguan history, a characteristic that would last until well into the twentieth century. Politicians frequently chose party loyalty over national interest, and, particularly in the 1800s, the nation was often the loser in interparty strife.

Liberal-conservative rivalry was not only a domestic issue but also an international one. The other provinces in the captaincy general, and later the successor nations, had similar liberal and conservative factions. Each faction did not hesitate to support its compatriots, often with armed force, in another province. After independence, the intercountry interference continued unabated conservatives or liberals in each of the five successor states frequently sent troops to support like factions in its neighboring countries. This constant intervention and involvement in its neighbors' affairs was a second and equally pernicious characteristic of Nicaraguan politics throughout its independent existence.

Data as of December 1993