UPDATE 2-Romania keeps rates at record low, cuts inflation forecast

Tue May 6, 2014 10:40am EDT

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(Adds Isarescu comments, market reaction, detail)

By Luiza Ilie

BUCHAREST May 6 (Reuters) - Romania's central bank left its key interest rate at a record low of 3.50 percent on Tuesday and forecast lower inflation in 2014, although it warned that volatile capital flows in emerging markets might create risks for its outlook.

Central bank Govenor Mugur Isarescu said the bank has lowered its end-year inflation forecast to 3.3 percent from a previous estimate of 3.5 percent. Its forecast for next year is 3.3 percent as well.

In March, the bank ended a rate-cutting cycle that has lowered borrowing costs by 175 basis points. It began easing last year, later than its emerging European peers, due to persistently high inflation.

It eventually had scope to cut because of bumper cereal crops, which cut inflation to an all-time low of 1.0 percent in March, well below the bank's 1.5-3.5 percent target, and boosted growth to one of European Union's highest levels.

"Almost all components of the new forecast are looking slightly better," Isarescu told a news conference. "We were especially positively surprised by the performance of food prices."

The monetary authority has indicated it would ease policy further by cutting minimum reserve requirements for commercial banks. But it has held fire after a surprise first cut at the start of the year, as tensions in Russia and Ukraine mounted.

On Tuesday, Isarescu said the bank was still looking to lower minimum reserve requirements in "adequate" doses and at the right time.

It said that risks associated with the inflation outlook chiefly stem from external sources, "namely the variability of investors' risk appetite over the short and medium term in relation to emerging economies as a whole, amid the recent geopolitical and regional tensions."

Isarescu played down the risks to the economy and markets from neighbouring Ukraine in comments late on Monday. The banking system's comfortable solvency and liquidity buffers should help alleviate problems arising from the exposure of Austrian and French banks to Russia and Ukraine, he said.

Ukraine's conflict with Russia, however, is keeping investors cautious in neighbouring Central Europe as well.

Analysts said the central bank could still loosen policy using indirect money-market moves that increase liquidity, keeping intra-bank interest rates low.

"We do not see this meeting as lacking in action," said Vlad Muscalu, chief economist at ING Bank in Bucharest. "We believe the central bank will find ways to stimulate economic growth further, even without using its more visible instruments."

The leu was down 0.1 percent against the euro at 1320 GMT, trading at 4.4380. That was unchanged from levels before the statements.

On Tuesday, central European assets were mostly range-bound as investors weighed the risks to prices from the escalating crisis in Ukraine against signs of economic recovery in the region. (Writing by Radu Marinas; Editing by Larry King)

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