(Adds poll, comment, updates market reaction)
By Mantik Kusjanto
WELLINGTON, Jan 29 (Reuters) - New Zealand's central bank slashed interest rates by 1.5 percentage points to a record-low of 3.5 percent and left the door open to lower borrowing costs further as its economy faces the worst recession on record.
The Reserve Bank of New Zealand, which delivered its second large cut in as many months, and the fifth since last July, said further moves would depend on the state of the world economy. The New Zealand dollar lost 2 percent on the news.
"We would expect any further reductions to be smaller than those seen recently," Governor Alan Bollard said in a statement on Thursday.
The move, which was bigger than most analysts had expected, came after the U.S. Federal Reserve on Wednesday held its main interest rate in a range from zero to 0.25 percent and said it could stay unusually low for some time as battles the worst recession since World War Two.
Also on Wednesday, the International Monetary Fund chopped its 2009 forecast for world economic growth to a slight 0.5 percent, the weakest since World War Two, from a November estimate of 2.2 percent.
"The economic outlook is very grim, and there is little to regret in cutting too far," said ASB Bank Chief Economist Nick Tuffley.
The New Zealand dollar fell around 2 percent to a low of $0.5190 after the rate decision, but partly recovered to $0.5210/20. The yield on the March bank bill contract fell 32 basis points to 3.18 percent.
The fall in interest rates sparked a 1.5 percent rally in stocks to a two-month high.
The move puts the rate at its lowest since it was introduced in 1999 and comes as New Zealand's economy shrank in the first three quarters of last year -- the first recession in a decade.
The RBNZ said the world economy was effectively in recession and that was hitting New Zealand harder than previously thought.
"We're probably still in recession and we will likely be there for the first half of this year," Bollard told reporters.
Unlike the United States and Japan, where key rates have been cut to near zero to revive their economies, analysts expect more cuts to come from the RBNZ, albeit at a slower pace.
New Zealand is the world's biggest dairy exporter and farming forms the backbone of the $95 billion economy. Its main trading partners are neighbouring Australia, Japan, China and the United States.
MORE CUTS EXPECTED
A Reuters poll conducted after the rate cut showed eight of 14 economists expect the RBNZ to slice its key rate again by 50 basis points at its March 12 monetary review. Three each picked 75 and 100 basis points.
The cash rate is seen bottoming at 2.5 percent by mid-year.
Bollard declined to give an estimate of how low rates could fall, but said with the inflation threat diminishing, further cuts would be smaller than previously seen and depend on the global picture.
He also reiterated that banks should pass on the rate cuts to borrowers and told consumers to show some confidence.
"Lower interest rates will have a positive impact on growth, alongside a lower exchange rate and fiscal stimulus, provided firms and households do not unnecessarily contract their spending."
New Zealand's rate compares with official rates of 4.25 percent in Australia, 0.1 percent in Japan, 2.0 percent in the euro zone and 0-0.25 percent in the United States.
Separately, data highlighted the weak state of New Zealand's economy with the annual trade deficit widening in December to NZ$5.62 billion from NZ$5.23 billion in November.
Other data, from the Treasury department, showed the government posting a worse than forecast deficit partly because of the slump in investment markets. (Editing by Jan Dahinten)