* Dollar supported by expectations for more Fed tapering
* WSJ says Fed may announce further tapering next week
* Euro slips after German ZEW survey
* Canadian dollar drops to 4-year low vs USD
By Anirban Nag
LONDON, Jan 21 The dollar strengthened on Tuesday in tandem with U.S. Treasury yields, which rose on speculation the Federal Reserve would soon reduce its bond-buying stimulus further.
In contrast, expectations are growing that the Bank of Canada may loosen its policy stance on Wednesday in the face of weakening economic data. The diverging paths saw the greenback reach a four-year high against the Canadian dollar, rising past a reported option barrier at C$1.10 to a peak of C$1.1019 .
The euro fell to a low against the dollar of $1.3525 after Germany's ZEW economic sentiment indicator for January came in below forecasts. It was last trading at $1.3530, still down on the day. Traders sold into rallies on expectations the European Central Bank will keep policy accommodative and may even cut rates if money markets tighten.
"The focus is more on the ECB's liquidity operations, and unless that is addressed, we expect the euro/dollar to remain a pain trade, staying in a range," said Geoffrey Yu, strategist at UBS.
While the euro rose against the yen, it was the U.S. dollar's advance that was grabbing attention. The dollar was up 0.5 percent at 104.72 yen, bringing it closer to possible resistance near 104.92 yen, an intraday high hit on Jan. 16.
The dollar/yen pair has a robust correlation with rate-sensitive U.S. two-year yields. They rose after the Wall Street Journal said that the Fed may announce a further reduction to its monthly bond purchases at its Jan. 28-29 policy meeting, to $65 billion from the current $75 billion.
Such a reduction would match the market expectations in a recent Reuters survey. Still, traders said the WSJ article helped to nudge the dollar higher against the yen.
"We do share the view that monetary policy in the U.S. will be less accommodative and that is helping the dollar against the yen," said Manuel Oliveri, FX strategist at Credit Agricole.
"On the yen side, there is some positioning that the Bank of Japan may sound move dovish at the end of its policy meeting this week. We actually expect them to upgrade growth forecasts and that could actually see some correction in the dollar/yen in the short term. In the medium term, we expect the pair to rise."
Key for the yen this week is the outcome of the Bank of Japan policy meeting on Wednesday. The BOJ is expected to retain a wait-and-see approach, having last year launched a massive stimulus programme.
The New Zealand dollar gave up gains made in Asia after inflation data strengthened the case for higher interest rates at home. Some traders said investors have been too aggressive in pricing in rate hikes in New Zealand, leading to a correction in the currency.
The New Zealand dollar last changed hands at $0.8305 , down 0.3 percent. It had risen to $0.8342 after fourth-quarter consumer price index rose 0.1 percent, beating forecasts for a 0.1 percent fall.