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To cut or not cut? Thailand mulls rate move

As a political crisis in Thailand drags on, pressure is mounting on the country's central bank to lower interest rates.

The case for a cut: Inflation is benign and with political turmoil hurting confidence and threatening to derail a generally resilient economy, the central bank should seize the opportunity and act now, some economists say.

(Read more: Thai protesters march on, defiant after grenade attack)

The case against: Interest rates were cut twice last year, lending the economy some support and further easing could exacerbate the outflow of foreign cash if jitters about Federal Reserve tapering return to emerging markets, others argue.

"It's certainly looking like there's a pretty good chance of a rate cut this week," said Sean Callow, senior currency strategist at Westpac Bank in Sydney. "They [Thai central bankers] have in the past placed some weight on political instability and the damage it can cause the economy."

Claudio Piron, head of emerging markets rates strategy at Bank of America Merrill Lynch, said markets are pricing in about a 60 percent chance of a rate cut at Wednesday's Bank of Thailand (BOT) meeting.

Anti-government protester waves a Thailand flag over the crowd in front of Victory Monument.
Ben Horton | Getty Images
Anti-government protester waves a Thailand flag over the crowd in front of Victory Monument.

At its last meeting in November, the BOT lowered its key rate by 25 basis points to 2.25 percent.

Since then, anti-government protests have ratcheted up, prompting Prime Minister Yingluck Shinawatra to dissolve parliament in December and call fresh elections for February 9.

(Read more: We don't mind losing 'fair elections': Abhisit)

Two recent grenade attacks at protest sites in Bangkok, the Thai capital, have sparked worries that the government will be forced to postpone elections, while there are signs that the unrest is taking a toll on the economy.

Thailand's finance ministry has cut its 2014 growth forecast for the second time in a month, to 3.1 percent from 4 percent. It said that infrastructure spending has been delayed amid the political unrest.

The Thai baht meanwhile has weakened more than three percent against the U.S. dollar over the past two months and the local stock market is down 0.7 percent so far in January, underperforming its Southeast Asian peers.

"We do have a rate cut penciled in, a change of view from before when we were expecting no change at this meeting," said HSBC Asean Economist Su Sian Lim.

"The downside risks to growth are rising and those downside risks are rising across the board," she added. "We see anecdotally that tourism is starting to suffer and given a muted inflation backdrop, the Bank of Thailand has more to gain than lose from cutting rates at this point."

Thailand's annual inflation rate stood at 1.67 percent in December, down from 1.92 percent a month earlier.

(Read more: Thai unrest casts doubt on investment expansion)

"At this point we concede that inflation fully allows Thailand to cut rates, particularly given the ongoing uncertainty in the political arena," said Vishnu Varathan, market economist at Mizuho Corporate Bank. "But the counter-balance to that point is that should external winds on [Fed] taper turn strong then a rate cut could catch flows the wrong way."

And with economists split on what the BOT could or should do, this week's meeting is sure to be one of the most closely anticipated Thai rate decisions for some time.

— By CNBC.Com's Dhara Ranasinghe;Follow her on Twitter @DharaCNBC

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