UPDATE 2-In first hint of hike, Turkish central bank lifts rate on dollar reserves

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ANKARA, Dec 17 (Reuters) - Turkey’s central bank raised the interest rate it pays on U.S. dollar-denominated required reserves on Thursday, taking its first step towards the policy tightening some investors have been hoping for when it meets next week.

The central bank faces a crucial credibility test when it meets for the last time this year on Dec.22.

It has previously signalled that it would wait to take its cue from the U.S. Federal Reserve. Failure to follow the Fed’s lead - the Fed lifted rates on Wednesday - would exacerbate investor concerns about the independence in the face of pressure from President Tayyip Erdogan.

“This move is only symbolic to support markets, but it gives a signal that the Dec. 22 meeting may result in a policy rate hike,” a liquidity manager at an Istanbul bank said.

The Turkish central bank increased the interest rate on dollar-denominated required reserves, reserve options and free reserves held at the bank to 0.49 percent from 0.24 percent.

“As the market response to yesterday’s rate hike has been quite positive, we expect the bank to start implementing its previously released monetary policy normalisation,” Odeabank said in a note to clients.

Erdogan equates high borrowing costs with treason. His chief economic adviser said late on Wednesday that markets would respond positively to the U.S. rate increase and it would be beneficial for Turkey to seek an opportunity to cut interest rates.

Writing on his Twitter account, Yigit Bulut, the adviser, said: “There is a benefit to seek an opportunity to cut interest rates”.

“A positive trend may be seen in markets in the 60 days ahead. The only development that could spoil this positive atmosphere is Russia and momentary upsets of the balance,” he added.

Economists have argued that Turkey is long overdue for an interest rate rise to rein in inflation and put a floor under the lira. The bank’s refusal to do so has helped send the currency to series of record lows.

The central bank’s benchmark repo rate, is set at 7.5 percent. Some market participants refer to the repo rate derisively as the “politicians’ rate”, as it does not reflect the true cost of borrowing.

That is better reflected by the weighted average cost of central bank funding, which hovers at around 8.80 percent.

The lira gained against the greenback after the Fed decision, trading at 2.9335 by 1031 GMT, from 3.0950 late on Wednesday.

Turkish stocks were also trading 0.83 percent higher. (editing by David Dolan/Dominic Evans)