(Adds currency movement, analyst comment)
By Alonso Soto
BRASILIA, Sept 24 (Reuters) - The Brazilian central bank warned on Thursday it is ready to use all instruments in its arsenal to curtail the collapse of the country's currency as investors fret over the future of Latin America's largest economy.
In a rare appearance at the quarterly inflation report news conference, central bank chief Alexandre Tombini did not rule out selling part of the country's $371 billion foreign reserves to calm the foreign exchange market.
Growing political turmoil that threatens to unseat President Dilma Rousseff and a deepening economic recession have dragged Brazil's real to its weakest level since the currency was created in 1994.
"In this process (to tame volatility), all instruments are available for the central bank," Tombini said. "Foreign reserves are an insurance that could and should be used."
The real bounced after Tombini's warnings, erasing losses and strengthening as much as 2 percent earlier on Thursday. The real later trimmed some of those gains to trade up 1 percent at 4.10 per dollar.
On Wednesday, the central bank failed to tamper foreign exchange volatility with renewed sales of currency swaps and dollars with repurchase agreements.
Markets question Rousseff's capacity to push through Congress a new fiscal adjustment package to shore up the country's finances and avoid more credit rating downgrades.
The deepening political and financial crisis has fueled concern that another credit rating agency will follow Standard & Poor's example and cut Brazil's rating to junk, forcing many global funds to dump its bonds from their portfolios
The sharp depreciation of the real, down 35 percent this year alone, threatens local companies and banks with large dollar-denominated debt.
Tombini said the bank will work to guarantee that the foreign exchange market works efficiently and is currently analyzing whether markets have enough liquidity.
Still, Tombini ruled out a sharp increase in interest rates to stabilize the currency, saying the bank will stick to its strategy of keeping borrowing costs at current levels for a prolonged period. (Reporting by Alonso Soto and Silvio Cascione; Editing by Chizu Nomiyama and Jonathan Oatis)