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UPDATE 2-Erdogan applauds sharp Turkish rate cut, calls for more

Ezgi Erkoyun and Ali Kucukgocmen

* Erdogan says central bank needs continue rate cuts gradually

* Lira firmed after Erdogan's comments

* Central bank cut rates by 425 bps to 19.75% on Thursday (Adds lira reaction, analyst comment)

ISTANBUL, July 26 (Reuters) - Turkish President Tayyip Erdogan said on Friday that the central bank's decision a day earlier to sharply cut interest rates was "vital" and added that the policy easing needs to continue at a gradual pace toward year-end.

On Thursday the central bank cut its benchmark rate to 19.75% from 24%, more than expected. The decision came less than three weeks after Erdogan abruptly sacked the bank's chief and replaced him with a deputy in a move that alarmed investors.

The lira, which firmed on Thursday following the rate cut, resumed its rally after Erdogan's comments. It stood at 5.6310 against the dollar at 1318 GMT, firming some 1.25% from Thursday's close of 5.7035. Earlier, it firmed as far as 5.6200.

Speaking to provincial heads of his AK Party on Friday, Erdogan said high interest rates are the biggest obstacle to the Turkish economy, which tipped into recession after last year's currency crisis.

"I've always expressed my discomfort over this (high interest rates) for years. Unfortunately, we could not convey this to central bank governors of those times," he said, adding the governors had used "stalling tactics".

Friday's move was in response to Erdogan's comments regarding lowering rates gradually, said Jason Tuvey, senior emerging market economist at Capital Economics.

"The fact that Erdogan called for gradual rate cuts is different from his previous comment about bringing down interest rates sharply," he said. "While there will be severe cuts this year, the bank will have to reverse course next year or in 2021 if the lira comes under renewed pressure, or if the U.S. imposes sanctions."


Erdogan, who frequently describes interest rates as "evil", has said he fired former governor Murat Cetinkaya because he did not follow instructions regarding monetary policy.

This has led to renewed concerns about the central bank's independence under Erdogan. Similar worries contributed to a sell-off in the lira last year which sent the currency down nearly 30% annually. It has also declined some 6% this year.

Inflation, which hit a 16-year high in the wake of the lira crisis, declined to just below 16% in June, opening the door for the central bank to start easing for the first time in more than four years.

Erdogan repeated on Friday his unorthodox view that inflation will come down as interest rates are lowered, adding that he expects stronger economic recovery in the second half of the year.

Tuvey said a loose monetary policy would not help Turkey solve its inflation problem.

"Even though inflation will fall as the impact of last year's currency crisis wears off, it may start to creep up again afterwards," he said. (Reporting by Ezgi Erkoyun and Ali Kucukgocmen Writing by Jonathan Spicer Editing by Raissa Kasolowsky)