FOREX-Dollar soft, yen gains as Japan ministers dampen tax cut talks
* Aso, Suga says not true govt started considering corp tax cuts
* Dollar/yen falls sparks broad loss-cut selling in dollar
* Euro, pound helped by signs of improvement in Europe
* NZD solid as domestic data runs hot
By Hideyuki Sano
TOKYO, Aug 15 (Reuters) - The dollar slipped against the yen on Thursday after Japanese ministers shot down a media report earlier this week that Tokyo is considering cuts in corporate tax, triggering broad weakness in the greenback in thin trading.
The dollar was also shackled by underlying uncertainty on when the Federal Reserve might start trimming its stimulus, while the euro and sterling drew support from better economic news at home.
"I think the fallout from today's comments on tax will be limited but if Japanese shares extend losses then we could see the dollar falling further," said a trader at a Japanese bank.
The dollar fell 0.4 percent to 97.75 yen, down more than a half yen from the day's high, after Japan's powerful chief government spokesman Yoshihide Suga and Finance Minister Taro Aso both downplayed the story by Nikkei business daily that the government is considering lowering the corporate tax rate.
Aso also went so far as to say that corporate tax cuts would not have an immediate impact on the economy - in another blow to those who had sold the yen on hopes Japan will take fresh measures to help end deflation.
While the absence of a corporate tax cut could be seen as negative for a currency, Japanese Prime Minister Shinzo Abe's aggressive deflation-fighting policies have tied the fortunes of the dollar/yen to Japanese share prices.
The yen has maintained an inverse correlation to Tokyo stocks, and thus many traders who had bought the dollar/yen on the Nikkei article were forced to dump their positions in line with Thursday's selloff in Japanese equities. The Nikkei share average lost 2.4 percent.
The fall in the dollar/yen pair pushed the dollar index below Wednesday's low, sparking a cascade of stop loss selling in the dollar against many other currencies.
The dollar index fell 0.3 percent to 81.491 while the euro gained 0.3 percent to $1.3296.
"I think some currencies were clearly overreacting. But I suspect there were many people who were shorting the euro," said a trader at a Japanese bank.
Even before Japanese ministers' comments, the dollar was on a shaky footing on uncertainty over when the Federal Reserve would start trimming its stimulus and how that might impact on asset markets.
"The market is getting nervous about tapering. I expect that to happen in September and the dollar to start rising then. But it is likely to go through some adjustment before that as there's concerns that tapering could spark risk-off trading as it did in May-June," said Hideki Amikura, forex manager at Nomura Trust and Banking.
DIMINISHING YIELD ATTRACTION
Part of the dollar's problem is that better data from the euro zone and UK led investors to scale back bets on further easing there.
That has been reflected in the spread between U.S. and German 10-year yields. The premium offered by U.S. debt widened from as little as 30 basis points in February to just over 100 basis points in July, but has since edged back to 89 basis points.
The gap between U.S. and UK yields has contracted to almost nothing, one reason sterling has been the best performing of the 36 most actively traded currencies month-to-date. The pound was firm at $1.5506 on Thursday, after bouncing from a $1.5421 low the previous day.
The market's confusion on the outlook for U.S. policy has been understandable given even the Fed itself seems unsure of when it might taper.
James Bullard, president of the St. Louis Fed, said late Wednesday he had not made up his mind if next month's policy meeting would be too soon to start curbing bond buying, as he was aware of the risks of being too aggressive.
One sticking point for policy makers is the level of inflation, which is too low for some. That will heighten the importance of the consumer price index due later Thursday.
Analysts are looking for increases of 0.2 percent in both the headline and core index, and anything more would add to the case for trimming stimulus and support the dollar.
"We believe that the core CPI reached a trough in June and will gradually rise during the second half of this year," said analysts at Barclays in a note.
"A gradual pickup in prices would help ease concerns on the low rate of inflation expressed by some Fed members, and we continue to expect the Fed to start tapering in September."
New Zealand's dollar shot higher after strong data on retailing and manufacturing fuelled talk it would be the first developed nation to hike interest rates.
Yields on New Zealand two-year debt surged to 15-month peaks at 3.07 percent, far above the meagre 0.34 percent offered by U.S. Treasuries. The kiwi followed to reach as high as $0.8078 , its highest level in more than two weeks.
The neighbouring Australian dollar benefited from recent gains in global commodity prices as markets priced in less risk of a hard landing in China following encouraging data there.
Particularly notable has been a rally in iron ore, Australia's single biggest export earner. The mineral touched a five-month high on Wednesday having risen 29 percent since June.
The Aussie bounce to $0.9170, up 0.6 percent from late U.S. trade.
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