* Political pressure seen as main rates on hold
* Covert tightening move through interbank market
* Lira falls to new low
* Erdogan "congratulates" bank on "appropriate" decision
By Seda Sezer and Daren Butler
ISTANBUL, Jan 21 (Reuters) - Turkey's central bank shied away from hiking its main interest rates on Tuesday despite a tumbling lira and rising inflation, bowing to what many investors see as pressure from a government bent on maintaining growth ahead of elections.
The bank has been battling to defend the lira by selling foreign exchange, adjusting money market liquidity and making statements of confidence. But it has avoided the outright rate hikes virulently opposed by Prime Minister Tayyip Erdogan.
"I congratulate them," Erdogan said of what he called an "appropriate" decision to hold rates, though it sent the lira to a record low and left investors questioning the credibility of the central bank.
"This decision was a kind of referendum on central bank credibility," said Neil Shearing, chief emerging markets economist at Capital Economics in London. "The market was waiting to see if it would respond to currency weakness in the face of government pressure not to do so.
"It's obviously bowing to the pressure."
The government, preparing for local elections in March and a presidential contest in August, has railed against high interest rates and played down market turbulence triggered partly by a corruption scandal which has shaken ministers.
The bank kept its main policy rate, the one-week repo rate, at 4.50 percent, its borrowing rate at 3.50 percent and its overnight lending rate at 7.75 percent.
But it acknowledged the threat from rising inflation and announced what effectively amounted to a rate increase by the back door, saying it would fund the interbank market at 9 percent on "additional tightening" days, when it cancels repo auctions and sells dollars at auction.
Economists called it a "covert" move that would not reassure investors but showed how far the bank was striving to tighten monetary policy without touching its headline rates.
"The bar to aggressive rate hikes in Turkey is much higher than in other vulnerable emerging markets," said Nicholas Spiro, head of Spiro Sovereign Strategy in London.
"The politicisation of Turkish monetary policy is becoming more pronounced with each passing day, boding ill for Turkish assets."
A corruption scandal shaking the government has put investors off Turkish assets in recent weeks, compounding concerns about a reduction in the U.S. monetary stimulus that has flooded Turkey and other emerging markets with cheap cash.
The lira has weakened some 10 percent against the dollar since mid-December when the graft investigation first emerged, extending a 17-percent fall in 2013, partly over uncertainty about the central bank's willingness to lift rates.
The cost of insuring Turkish debt has risen to 18-month highs.
Erdogan has cast both the corruption probe and anti-government protests which shook Turkey last summer as part of a foreign-backed plot to undermine the country's international standing. He has blamed an "interest rate lobby" of speculators for seeking to damage the economy by pushing for high rates.
"The decision taken by the central bank to leave rates unchanged will be positive for Turkey, negative for the interest rate coalition," Erdogan's chief economic adviser, Yigit Bulut, said on his Twitter account.
Erdogan told reporters in Brussels that the central bank was independent. He said: "I see the decision that the central bank has taken today as appropriate and I congratulate them."
On the eve of the central bank decision, had played down the turbulence in Turkish markets, saying it would be short-lived and describing recent outflows as "trifling".
His new economy minister, Nihat Zeybekci, put it more bluntly on Monday, saying he saw no risk from the lira's current volatility and the central bank should not raise rates.
The lira initially slumped to a new low of 2.27 against the dollar but later recovered some ground, trading at 2.25 by 1420 GMT. Default insurance costs in the five-year CDS market hovered around 18-month highs, Markit data showed.
Five out of 15 economists in a Reuters poll had expected the bank to make any move on the lending rate on Tuesday.
But a separate Reuters poll of 24 economists last week forecast that the bank will have to increase its overnight lending rate by a full percentage point to 8.75 percent by the end of March to shore up the lira.