UPDATE 2-Turkish c.bank holds fire, warns of tighter policy

Wed Apr 18, 2012 11:20am EDT

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By Simon Cameron-Moore

ISTANBUL, April 18 (Reuters) - Turkey's central bank kept interest rates and banks' reserve requirements on hold on Wednesday but warned it may have to tighten market interest rates more frequently to head off risks to inflation from higher oil prices.

The bank for the first time this year refrained from tinkering with a complicated policy mix aimed at taming inflation while avoiding a collapse in growth.

But its statement again struck a hawkish tone, saying it would not allow inflation to worsen on the back of fuel costs - crucial for a country that imports most of its oil and gas - which it warned will push up prices in the short term.

"The committee will not tolerate temporary factors to have an adverse impact on the inflation outlook," the bank's monetary policy committee said in a statement after its monthly rate-setting meeting.

"Accordingly, it was underscored that additional monetary tightening may be implemented more frequently in the forthcoming period."

As a result, the lira rose against a dollar/euro basket to 2.0674 from 2.0700 late Tuesday.

The lira recovered from early lows against the dollar to stand around 1.7902 to the dollar in late trade, virtually unchanged from late Tuesday.

Some traders interpreted the allusion to additional tightening measures as a signal that the bank was ready to use liquidity management tools to induce more frequent surges in the cost of lira funding to support the currency.

The central bank had returned to its policy of tight liquidity management last week in support of the lira after the currency fell close to the sensitive level of 2.10 against the dollar/euro basket.

"This policy may eliminate an excessive lira weakness, yet by itself it would not help the lira appreciate unless global risk appetite improves," said Nilufer Sezgin, economist at Ekspres Invest.

The central bank kept its key one-week repo rate unchanged at an all-time low of 5.75 percent, where it has been since August. Overnight lending rates stayed at 11.5 percent, and the overnight borrowing rate at 5 percent, with required reserve ratios (RRRs) on lira and foreign currency deposits unchanged.

All 10 institutions polled by Reuters had expected the bank to leave its key rates and RRRs on hold and as significant was its decision to keep lira funding - which is has used to prop up the currency - steady in the coming month.

The policy rate has become less significant since December when the central bank began funding the market through more expensive intraday repo auctions on days deemed "exceptional", notably whenever the lira currency appeared vulnerable.

The bank has focused on managing the exchange rate in its struggle to bring inflation down to 6.5 percent this year from current levels of just over 10 percent.

Worried that raising official interest rates could worsen a slide in economic growth later this year, the bank has opted to use liquidity management tools to bolster the lira.

After losing close to a fifth of its value against the dollar last year, the lira has bounced back just over 6 percent so far this year.

The bank said it would continue to use that flexible approach and kept funding for its ordinary short-term repo loans to banks steady at 1-6 billion lira and a ceiling of 5 billion lira on monthly loans. (Additional reporting by Seltem Iyigun, writing by Patrick Graham)

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