UPDATE 3-BOJ stands pat, keeps powder dry as recession risk looms

* BOJ holds off on expanding asset-buying programme
* BOJ seen under pressure to ease at Oct. 30 meeting
* Economics minister makes rare appearance, pressures BOJ
* Shirakawa says price outlook won't bind policy timing

By Leika Kihara
TOKYO, Oct 5 (Reuters) - The Bank of Japan resisted
political pressure for action and kept monetary policy steady on
Friday, but left the door open to more monetary easing later
this month by warning of looming risks to the outlook for the
world's third-largest economy.
Despite mounting signs that sagging exports to China and
Europe may nudge Japan into recession, central bankers preferred
to wait and assess the effect of stimulus unveiled just last
month, and save their limited options for now.
Underscoring heightening pressure from the government, newly
appointed Economics Minister Seiji Maehara, a vocal advocate of
aggressive monetary expansion, made a rare appearance at
Friday's meeting to make a direct call for bolder action.
"I'd like to continue urging the BOJ to pursue powerful
monetary easing to achieve its price target," Maehara told
reporters after attending the rate review, becoming the first
economics minister to do so in nearly a decade.
Markets see a strong chance that the BOJ will loosen policy
again on Oct. 30. It is also expected to cut its long-term
growth forecasts at that meeting and admit that Japan remains
years away from achieving the bank's 1 percent inflation target
in around fiscal 2014, according to sources familiar with its
thinking.
"Downward pressure on the economy and prices is increasing,
so keeping policy on hold at the BOJ's next meeting may not be
an option," said Hiroshi Miyazaki, chief economist at Shinkin
Asset Management in Tokyo.
As widely expected, the central bank held off on expanding
its asset buying and loan programme, after having increased it
last month on fears that weak exports and output are diminishing
prospects of a near-term recovery.
But it warned that Japan's economic activity was leveling
off, offering a slightly bleaker view than last month when it
said a pickup in growth was pausing.
"The slowdown in overseas growth is lasting somewhat longer
than expected, which is affecting manufacturers' exports. The
impact may gradually spread to other parts of the economy," BOJ
Governor Masaaki Shirakawa told a news conference.
The BOJ set a 1 percent inflation target and eased policy in
February, and followed up with additional stimulus twice so far
this year in a show of its determination to beat deflation that
has plagued the country for most of the past decade.
It now projects core consumer inflation, which excludes food
and energy, of 0.2 percent for the current business year ending
in March 2013, and 0.7 percent in the following year.
Analysts have critized the forecasts as too optimistic,
noting core consumer prices fell 0.3 percent in August from a
year earlier to mark the fourth straight month of declines.
Pushing the BOJ's inflation target back would make a case
for immediate policy action, analysts say.
But Shirakawa stressed that the BOJ will not bind its policy
decisions to its price outlook, signalling that falling short of
its 1 percent target would not guarantee imminent easing.
"What's important is whether prices are heading up as a
trend, rather than short-term moves," he said.

RISKS LOOM
So far this year, Japan's economy has outperformed most of
its peers in the Group of Seven on spending for rebuilding from
last year's earthquake. But with that effect fading, domestic
demand may not make up for falling exports for much longer.
Output fell to a 15-month low in August on sagging sales to
top export market China and business sentiment soured in the
three months to September, fuelling concerns that the world's
third-largest economy has stalled and may slip into recession.
Anti-Japan protests in China have added to headaches for
Japanese companies. Toyota Motor Corp's China sales
fell about 40 percent in September, underscoring how badly the
territorial row is hitting Japanese brands.
Pressure from the government will keep the BOJ on edge.
Two government representatives, one from the finance
ministry and another from the Cabinet Office, which Maehara
heads, can attend the BOJ's policy meetings. They cannot vote
but may express views and propose a request in vote on policy.
The BOJ, however, is running out of tools to force-feed cash
to markets already awash with excess funds.
It needs to pump 20 trillion yen ($255 billion) more into
markets by the end of next year to achieve the 80-trillion-yen
target set for its asset buying and loan programme, under which
it offers funds via market operations and buys government bonds,
corporate debt and trust funds investing in stocks and property.
That is not easy because commercial banks, struggling to
find companies eager to borrow amid a weakening economy, are in
little need of cash and so are stacking money in BOJ accounts.
Maehara has urged the BOJ to buy foreign bonds. But this
will require a revision to current law that prohibits the BOJ
from buying foreign assets to influence currency rates.
That means the most likely path would be for the central
bank to continue boosting government bond purchases, sources
have said, adding that there is still room to pledge bigger
amounts of bond purchases for next year.