By Seda Sezer
ISTANBUL, July 23 (Reuters) - Turkey's central bank is expected to raise one of its main interest rates to shore up the lira on Tuesday and investors will be focusing on whether it affirms its independence by flagging further tightening.
Prime Minister Tayyip Erdogan has long championed low interest rates, fearing an economic slowdown ahead of elections, but the central bank has already burned through $6.6 billion of its reserves to try and boost the lira, a policy it cannot pursue indefinitely.
Analysts expect it will now shift strategy and raise its overnight lending rate, a move that would aim to prevent a run on the currency that has been weakened by uncertainty over the U.S. Federal Reserve's bond-buying programme and by demonstrations against Erdogan's government last month.
Analysts said the bank's tone on the outlook for rates would be more important than the size of the expected rate hike.
'If the central bank leaves the door open for more interest rate hikes it could have a bigger impact than the interest rate hike itself,' said Tufan Comert, a strategist at Garanti Securities who expects a 100 bps increase in the lending rate.
If Turkey does lift rates, it would follow other emerging markets. Last week, India joined Brazil and Indonesia in raising some of its interest rates to try to prevent a rout of its currency.
Erdogan, bent on pumping up growth ahead of an election cycle that begins next year, and members of his economic team have blamed a 'high interest rate lobby' for seeking to undermine Turkey's prospects.
Central bank Governor Erdem Basci, however, signalled a possible shift in policy last week.
Speaking a day after Erdogan met his economy and finance ministers, Basci said a 'measured step' was on the cards to widen the interest rate corridor the bank uses to control liquidity conditions, widely interpreted to mean a hike in its overnight lending rate.
Deputy Prime Minister Ali Babacan has repeatedly said the central bank is fully independent, but the timing of Basci's announcement left some with the impression he had been emboldened to act after receiving the government's blessing.
All 17 economists in a Reuters poll expected the bank to raise its overnight lending rate, with forecasts varying between 50 and 150 basis points, but to keep its policy rate and overnight borrowing rate on hold.
At its last meeting a month ago, the bank kept its main policy rate, the one-week repo rate, at 4.50 percent, its borrowing rate at 3.5 percent and lending rate at 6.5 percent.
FORWARD GUIDANCE KEY
Reassurances from Fed Chairman Ben Bernanke last week over the pace of the U.S. central bank's plans to withdraw monetary stimulus have boosted sentiment in emerging markets, lending some support to the lira in recent days and taking some pressure off Turkey's central bank.
That led some analysts to speculate on Monday that it may only lift the lending rate by 50 basis points even if the market is hoping for a sharper increase.
'A tightening in the upper band seems to be warranted, but the rest will be the art of central banking where a bit of 'forward guidance' ... will be a test for policy credibility,' said Sengul Dagdeviren, chief economist at ING Bank.
Concerns about the outlook for Fed policy and domestic unrest have pressured the lira in recent weeks, helping push it to its weakest ever against the dollar at 1.9737 on July 8.
The central bank has been caught in the crossfire, whittling away reserves to try to defend the lira without raising rates while trying to keep inflation down and stop the current account deficit, at 7.1 percent of GDP and a source of concern for investors, from widening further.
Raising the overnight lending rate would increase the real interest rate on lira assets and make them more attractive to foreign investors, supporting the currency. Whether that in itself will be enough to calm nerves remains to be seen.
'To stay true to their talk, the central bank is expected to hike rates,' said Nordea Bank analyst Annika Lindblad.
'Even with this rate hike we expect the central bank to tread carefully: growth is still fragile and PM Erdogan will not be too happy with the central bank quenching growth, considering the upcoming elections.'
(Additional reporting by Nevzat Devranoglu, writing by Nick Tattersall; Editing by Susan Fenton) Keywords: TURKEY RATES/
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