The Association of Banks –Asbanc– recently announced in its website that in May of this year private-banks’ mortgage credits amounted to a total of more than 17 billion soles, which represents an increment of 27% with respect to May of 2010. According to Asbanc, this rapid increase is the result of “a strong housing demand, given the high deficit of housing”, and that the banks have limited themselves of satisfy such demand “increasing their credit supply”.

Although Asbanc appears to give more importance to the effect of demand, it is obvious that, as in every market, both the price (the interest rate) and the quantity (the amount of credits) are simultaneously determined by supply and demand, and that an increase in the amount of credits can be brought about by an increase in any of them. However, there a very important difference: increases in demand should cause, ceteris paribus, a rise in the interest rate, while increases in supply should result in lower interest rates.

What appears to be happening in this case is that the most important effect is that of an increase in the supply of credit, and that, as a result, we may now have real interest rates that are excessively low to be maintained much longer. In fact, given that the current nominal interest rate charged for mortgage credits is 8.4%, while the value of the dollar with respect to the sol has fallen in seven of the last eight years at an average annual rate of 2.9%, simple arithmetic tells us that the nominal interest rate in soles is only 5.5%, which appears to be low in the case of a nominal, long-term rate.

But the relevant variable in this case is the real interest rate, which can be calculated in two different ways. A first way is subtracting the Central Bank’s “underlying inflation” (3%) from the nominal interest rate (5.5%), which gives a real interest rate of only 2.5%. A second way is subtracting not the “underlying inflation” but the inflation rate of housing prices. In this case –and taking into consideration that, according to the Peruvian Chamber of Construction, Capeco, and the BBVA-Banco Continental, the dollar price of a square meter currently grows at about 15% a year in some districts of Lima– we find that the corresponding inflation rate in soles is 12.1%, which in time gives us a real interest rate in soles equal to -6.6% (i.e., 5.5% minus 12.1%).

Thus, it is apparent that in this case the effect of the increase in supply outweighs that of the increase in demand; and the longer terms at which loans are being granted only corroborates our assertion. As a result, the current real cost of credit may be excessively low, and even negative. Although there has been an increase in demand –caused by the rise in households´ income; and by the de-dollarization process that has led to the substitution of the dollar for real state as a means of saving; and even by the existence of a contained demand–, on the other hand, several factors contributing to an increase in the supply of funds can be identified, the most important one being the low rate of return on financial funds in international markets, caused by a world excess of dollar liquidity.

Although there are several ways of objecting the accuracy and relevance of the figures involved, it appears to be obvious that the behavior of the variables involved –i.e., the rates of interest, inflation and devaluation– cannot be sustained in the medium-, much less long term, and that an abrupt reversion in their evolution may bring about serious problems, and not only to the banks. The aphorism attributed to Milton Friedman “there’s no such thing as a free lunch” should make us understand that if someone is getting credit for free, there must be others that are paying, or will end up paying, for it.

A similar situation (rising housing prices, increasing mortgage credit and low interest rates) took place during the unrestrained growth of financial markets in the U.S. during the years previous to the blowing of the real estate bubble in 2008. However, such growth was made possible by the constant inflows of foreign capital, and this does not appear to be the case in Peru, something that may help us to feel relieved or less worried.