The central bank said it would conduct policy appropriately to beat deflation, but did not repeat the vow of powerful easing it has used in post-meeting statements since August 2010.

Some market players interpreted this as a sign the BOJ may scale back its ultra-loose policy, a view its governor quickly dismissed.

"There is absolutely no change to our stance of pursuing powerful monetary easing," Governor Masaaki Shirakawa told a news conference.

He also warned that a prolonged slowdown in Chinese growth and Europe's simmering debt crisis could hurt Japan's economy, a sign the BOJ stands ready to act again soon should markets become destabilized and trigger a renewed spike in the yen, which along with the U.S. dollar is seen as a safe-haven of sorts during global financial turmoil.

"The BOJ stood pat as expected but is likely to ease next in July, based on recent patterns," said Yasuhide Yajima, chief economist at NLI Research Institute in Tokyo.

"Japan is likely finding it more difficult than before to intervene in the currency market given international pressure, so if the yen spikes to around 77 to the dollar, the BOJ may act first through monetary policy to weaken the yen."

As widely expected, it kept the size of its asset buying program unchanged at 40 trillion yen ($504 billion) and maintained its policy rate at a range of zero to 0.1 percent.

The dollar slipped 0.7 percent against the yen to 79.39 yen after the BOJ decision, with the firmer yen hitting shares of Japanese exporters and helping to push the benchmark Nikkei index .N225 to a four-month closing low. .T

OUTLOOK MURKY

Fears of a Greek exit from the euro zone and funding strains in Spain have kept Japanese central bankers on edge as they fret about the damage that relentless yen gains and slumping Tokyo share prices could inflict on the export-reliant economy.

In a sign that support from global growth remains wobbly, the country's exports rose just 7.9 percent in April from a year earlier, slower than a median forecast of 12.7 percent due to falling shipments to China.

While the BOJ is ready to loosen policy again on any signs that Japan's recovery is under threat, it has good reason to keep policy on hold now and save its limited options for later.

Japan's economy rebounded in the first quarter from last year's stagnation and is seen headed for a recovery due to spending for rebuilding from last year's earthquake, making it difficult to justify easing now.

The BOJ is also struggling to force-feed funds to markets already awash with cash, failing to meet its target for government bond buying twice last week.

Still, Finance Minister Jun Azumi kept up the pressure on the BOJ, saying after the rate review that he expected the bank to continue acting appropriately to support the economy.

Any future easing will likely take the form of a further increase in the asset buying program. In doing so, the BOJ may have to target bonds with longer durations to draw enough bids for its bond buying auctions.

That is something the central bank wants to put off for as long as possible as it would bind its policy for longer than it prefers and make an exit from ultra-easy policy more difficult.

Shirakawa ruled out the chance of targeting longer-dated bonds such as those with up to five years until maturity, saying that the BOJ can meet its asset buying target without doing so.

He also dismissed the idea being floated in markets of cutting the BOJ's policy rate or the 0.1 percent interest it pays to excess reserves parked with the central bank.

Even if the BOJ refrains from easing at its next review in June, many analysts expect it to ponder easing in July when it issues revised quarterly economic and price forecasts that may show Japan is still distant from achieving 1 percent inflation.

In a sign of the dilemma the BOJ faces as it struggles to beat deflation, Shirakawa said the best way to support the economy via easing was to nudge down already low borrowing costs instead of boosting the size of its balance sheet.

"When interest rates are zero ... the vast amount of money central banks pump into the market get parked as (financial institutions') deposits at the central banks," Shirakawa said.

"It's like pulling on a string."

The BOJ eased policy via an increase in asset purchases in February and April in a largely symbolic move aimed at showing impatient politicians and markets its determination to achieve its 1 percent inflation target set in February.

($1 = 79.3500 Japanese yen)

(Additional reporting by Stanley White, Tetsushi Kajimoto and Kaori Kaneko; Editing by Ramya Venugopal & Kim Coghill)

• A Permanent Economic Emergency