FOREX-Dollar hits 3-1/2 month high vs yen on rate view

* Dollar strikes 3-1/2 month high versus yen

* Hawkish talk from Fed officials support dollar

* Yen pressured by returning risk appetite

(Changes dateline, byline, updates prices, adds quotes)

By Simon Falush

LONDON June 11 (Reuters) - The dollar struck a 3-1/2-month high against the yen on Wednesday after more tough talk from Federal Reserve officials on inflation firmed expectations of U.S. interest rate rises this year.

Dallas Fed President Richard Fisher said on Tuesday the U.S. central bank would not allow inflation expectations to rise unchecked, echoing comments made by Fed Chairman Ben Bernanke a day earlier. [ID:nN10365737]

Bernanke said the risk the U.S. economy has entered a substantial downturn has diminished over the past month, sparking the interest rate futures market to price in as much as 75 basis points of rate hikes by the end of the year FEDWATCH.

"Fed hawkishness has triggered a rebound in the dollar and Bernanke's comments that the U.S. economy is not faring as badly as was thought has improved risk appetite which is supporting the yen," said Adam Myers, markets strategist at Credit Suisse.

However Myers cited the downgrade last week of the bond insurance arms of MBIA Inc (MBI.N) and Ambac Financial Group (ABK.N) as evidence that problems in the U.S. economy are far from over [ID:nN05590179].

"The underlying evidence is not supporting (Bernanke's) case (on the economy), I think the market is pricing in too many rate hikes, and the dollar rally hasn't got anything to back it up."

Strong warnings about inflation risks from Fed officials came alongside an unexpected barrage of remarks from Treasury officials, who have said they are keeping an eye on the dollar and keeping options open for dollar-buying intervention to stem its slide.

By 0800 GMT the dollar was steady at 107.51 yen, having climbed as high as 107.76 yen on Reuters data, the highest since late February.

The euro climbed 0.3 percent to 166.68 yen EURJPY=, pushing up near a seven-month high of 167.15 yen hit last week.

The euro has been supported as European Central Bank officials have signalled a rate increase could come as soon as next month to limit the inflationary impact on the economy from soaring oil prices.

The euro was up 0.2 percent to $1.5493 EUR=, recovering a little from a 2 percent drop over the previous two days.

The yen also suffered as Asian equity markets posted gains, spurring some investors to put on carry trades -- in which they use the low-yielding currency as a cheap source of funds for higher-yielding currencies.

The market shrugged off revised data that showed Japan's economy grew 1.0 percent in the first quarter, exceeding expectations, because it did little to alter views that growth in the world's No.2 economy will slow as soaring energy costs bite. [ID:nT18115]

RATE WATCH

Market players said a surprise Bank of Canada decision on Tuesday to keep its interest rate steady highlighted the shift in policies that many central banks are making to tackle inflationary pressures by stemming their currencies' slide.

Yet, the yen looked poised to fall further as the Bank of Japan is expected to sit tight on rates -- the lowest among industrialised nations at 0.5 percent, even as Japanese government bond yields have shot up to 10-month highs, analysts said.

With the data calendar light on Wednesday, investors will look to U.S. data later in the week for more clues on whether the current 75 basis point rate rise that markets are pricing in are realistic.

"Tomorrow's release of U.S. retail sales and Friday's release of US CPI risk pushing the euro towards the lower end of the range if above expectations," Commerzbank Corporates & Markets in a note to clients.

(Reporting by Simon Falush) (Editing by Chris Pizzey)