* Further rate cut possible to reduce overfunding
* Annual inflation set to rise sharply in Sept
(Adds analyst comment, markets, details)
By Daren Butler
ISTANBUL, Sept 28 (Reuters) - The Turkish Central Bank said on Tuesday it may cut borrowing rates again in the period ahead in order to reduce overfunding to the market and leave less end-day excess liquidity.
The bank cut the overnight borrowing rate to 6.25 percent from 6.5 percent earlier this month as part of its exit strategy from crisis-induced stimulus measures, and said at the time the cut would stimulate interbank trade.
"Importantly, by cutting the overnight borrowing rates and thus discouraging overnight investments by foreign investors, the central bank could be urging foreign investors to invest more in the bond and equity markets," added JP Morgan economist Yarkin Cebeci.
In the minutes of its Sept 16 monetary policy committee meeting, the bank also said annual inflation was likely to rise markedly in September but return to a downtrend in October.
The first step of the bank's exit strategy came in May when it made the one-week repo rate its policy rate, setting it at 7 percent.
Under the technical rate adjustment, the gap between this repo rate and the overnight borrowing and lending rates can be used as operational tools of monetary policy.
"In this respect, in order to decrease the overfunding to the market and leave less end-day excess liquidity, there could be another reduction in the borrowing rates in the forthcoming period," the bank said on Tuesday.
Last week, in another move to withdraw the extra stimulus pumped in during the financial crisis, the central bank raised its reserve requirement rate for banks, withdrawing around $3 billion of spare cash from the economy.
Tuesday's statement had little impact on Turkish markets, which were firm, with shares 0.8 percent higher, the lira steady and bond yields lower.
The bank reiterated in Tuesday's minutes that it would be necessary to maintain the policy rate at current levels for some time and at low levels for a long period.
It said extreme volatility in food prices might continue to have a significant impact on annual inflation in the short term.
"In fact, leading indicators suggest that annual inflation would rise markedly in September owing to the sharp increases in unprocessed food prices driven by higher vegetable prices," it said.
The upsurge was expected to be temporary, with annual inflation set to return to a downtrend by October.
Prime Minister Tayyip Erdogan said on Saturday the central bank's interest rates were too high and should be cut further.
In August, Turkey's consumer price index rose 0.40 percent month-on-month for a year-on-year rise of 8.33 percent. (Writing by Daren Butler; Editing by Tim Pearce)