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alls for the Financial Services Authority (OJK) to cut lending rates may backfire, with loan growth stymied and bad debt increased.

The call was conveyed in a circular distributed by the OJK to major banks, following repeated statements from Vice President Jusuf Kalla that he wanted to see a decline in lending rates across the banking industry. According to a copy of the circular, the OJK asks for the lenders'€™ '€œattention and commitment'€ to gradually reduce lending rates to a single digit by year-end, beginning as soon as they implement the latest OJK policy on deposit rates.

OJK commissioner for banking supervision Nelson Tampubolon said that the call was basically aimed at all lenders, but was for now focused on major banks as '€œmarket movers'€.

In essence, the banking authority wants to see lower rates this year.

However, the OJK appears to be encouraging banks to jeopardize their prudence, as rates are ideally determined according to each bank'€™s risk profile.

There are five basic credit segments in the banking industry, namely corporate, retail, micro, mortgage (KPR) and non-mortgage consumer. The micro loan segment currently carries the highest rate, at an average of 19.4 percent per year, according to data compiled from major banks.

The corporate segment offers annual rate of 11.1 percent, retail offers 12 percent, while mortgage and non-mortgage consumer offer 11 percent and 12.2 percent, respectively.

Given Indonesia'€™s vast geographical area and scattered banking customers in remote places, the high rate on micro loans is considered justifiable to cover the segment'€™s risk and operational costs.

State lender Bank Rakyat Indonesia (BRI) '€” which has the largest share of micro loans '€” spent roughly Rp 16.6 trillion (US$1.26 billion) in salaries and benefits for its 92,574 employees last year, most of whom are deployed to secluded areas to serve its 7.85 million micro loan customers.

Former BRI president director Sofyan Basir once highlighted the significance of proper rewards for employees, saying that staff went to great lengths to reach customers.

'€œWhen lending rates are reduced to a single digit by force, banks may end up playing things safe and become very selective in disbursing their loans out of fear of spiking NPL [non-performing loans],'€ said former finance minister Chatib Basri.

The 12 percent to 14 percent credit growth expectation in 2016 would in such a case be drastically reduced.

Chatib said he supported the idea of more affordable loans, but argued that inflation was at the core of the problem and that the OJK could not lower lending rates to a single digit if inflation remained high.

Data from the Central Statistics Agency (BPS) reveal that Indonesia'€™s year-on-year inflation hovered at between 3.35 percent and 8.38 percent from 2010 to 2015, much higher than the inflation recorded by neighboring Southeast Asian countries.

Malaysia'€™s inflation hovered at between 1.7 percent and 3.2 percent, while Singapore'€™s stayed at 1 percent to 5.3 percent.

Banks are predicted to face even more difficulties slashing their lending rates as funding sources dry up, partially as a result of an earlier OJK regulation.

The authority recently made it compulsory for pension funds and insurance firms to invest in government debt papers (SBN), leading to a shift in funds kept in banks'€™ time deposits to debt papers.

Separately, Gadjah Mada University economist Tony Prasetiantono questioned the effectiveness of the OJK intervention, while Samuel Sekuritas economist Rangga Cipta said it would negatively affect investor sentiment.

Rangga acknowledged the need for low rates to trigger investment, but added that the market needed fewer government interventions as well to ensure lower-risk economic growth.