* Serb cbank keen on cutting rates to boost bank lending
* Current dinar level bad for inflation target
* Serbia should not be allowed to expand fiscal gap further
By Gordana Filipovic
BELGRADE, May 18 (Reuters) - Serbia's central bank would like to cut its key policy rate this week for a fourth time in 2009 to bolster bank lending during the economic slowdown, but its decision depends on whether inflation can stay on track. Lower inflation would mean lower rates and cheaper bank loans, bringing down reliance on the euro in an economy where 75 percent of deposits and lending are linked to hard currencies, central bank Governor Radovan Jelasic said on Monday.
"I would personally be happier with a lower interest rate this week," Jelasic told Reuters in an interview.
However, he said: "My personal feeling is that 0.9 percent (monthly CPI in April) is certainly not something I was expecting and most of it resulted from regulated price hikes."
"But, we also see some firming of the dinar and we have yet to see what will be the final decision."
The central bank has cut its 2-week repo rate three times this year by a total of 375 basis points to 14 percent, on mounting evidence of economic contraction which is expected to have been at 5-7 percent in the first quarter. Future cuts depend on regulated prices.
April CPI eased to 8.8 percent year-on-year, but the monthly rise caused the governor's concerns. "Only a month or two ago I was optimistic about inflation going down fast in Serbia. But not any more," he said.
Prices regulated by the government rose 11.5 percent in the first four months of this year. This compares with a maximum of 15 percent planned for the whole of 2009.
The dinar traded at 94.07/euro on Monday, up on its Friday close of 94.40/euro. This level, which is about 25 percent below last September's, was not making it easy for the central bank to achieve its 6-10 percent inflation target for 2009, Jelasic said. However, it was boosting export competitiveness.
"The key monetary policy challenge is how to balance the benchmark rate, bearing in mind what's going on with inflation and its possible impact on the exchange rate," he said.
"But it is hard to foresee what is ahead of us in the coming months -- if this is the end of the main thrust of the crisis or only a break before a next shock," he said.
The central bank holds a meeting to decide interest rates on May 20, its first since the IMF approved a 3 billion euro loan, 800 million euros of which is due this week.
Serbia won the IMF deal on promises to cut public spending by one billion euros, bringing down its fiscal deficit to three percent of GDP. Some analysts have said that Serbia could ask the IMF to approve a higher gap due to deep recession.
But Jelasic said: "Initially, there was a need to increase the deficit. But beyond three percent? No. The money from international lenders to support the budget ends up in spending. Those are temporary sources of funding, which we have to repay from real revenues in the next couple of years."
A worse economic contraction in euro zone countries was raising concern that Serbia's recession could also be deeper. Local firms were struggling with a liquidity squeeze, not because there was no money around but because the cost was too great as banks kept their rates high due to significant risks, Jelasic said.
Cheaper bank lending would have helped to reduce reliance on hard currencies in a country which still has vivid memories of hyperinflation and currency devaluations, he said.
"But the key issue is how to grant dinar credits from hard currency deposits without forcing banks to create significant open positions," Jelasic said.
On Monday, the central bank called a first swap auction, offering to sell 50 million euros at 99.1283 dinars.
"One of the aims of swap auctions is to make sure that big forex transactions, both inflows and outflows, do not reflect on the market and to ensure less currency swings," Jelasic said. "It will help us to manage exchange rate expectations."
The two-week swap facility is expected to keep the dinar a lot more stable. "After two weeks, banks have a chance to roll over for another two weeks. And if we see extreme expectations on any side, it will allow us to deal with them fairly quickly," he said. (Editing by David Stamp)