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* Dollar near two-week lows against currency basket
* U.S. jobless claims fall, reading clouded by technical issues
* Euro/dollar and dollar/yen one-week implied vols jump
By Wanfeng Zhou
NEW YORK, Sept 12 (Reuters) - The dollar edged higher against the euro on Thursday after data showed a sharp fall in U.S. weekly jobless claims and a contraction in euro zone industrial output.
But the dollar slipped versus the yen as U.S. Treasury yields fell and some traders said that while the Federal Reserve will likely start reducing stimulus next week, the move will be smaller than initially thought.
Uncertainty about the timing and pace of Fed action grew after last week's disappointing U.S. August employment report. Thursday's U.S. jobless claims data further clouded the picture as much of the decline appeared due to technical problems in claims processing.
Analysts expect major currencies to be in a holding pattern going into the Fed's meeting next Tuesday and Wednesday. Before that, U.S. retail sales and consumer prices will be closely watched.
"Unless we get a significant new piece of information, we're going to be in this range-bound pattern, maybe with some bias for dollar weakness, as we wait for the Fed," said Vassili Serebriakov, FX Strategist at BNP Paribas in New York.
The euro fell 0.2 percent to $1.3277, hitting a session low of $1.3259 after data showed U.S. initial jobless claims fell to 292,000 in the latest week, the lowest level of claims since 2006, confounding analysts' expectations for a mild increase.
Euro zone industrial production fell 1.5 percent in July, compared with a 0.1 percent increase forecast.
Against the yen, the euro lost 0.9 percent to 131.80 yen . Against the pound, it was trading weak, near a recent 7-1/2 month low.
Sterling cut losses against the dollar and hit a session high against the euro after Bank of England Governor Mark Carney showed no apparent unease over rising bond yields.
The dollar index, which measures the greenback versus a basket of six currencies, was flat on the day at 81.552, not far from a two-week low of 81.410 struck earlier in the session.
Markets have tempered their expectations for any aggressive stimulus withdrawal by the Fed. That has led investors to trim long dollar positions built on expectations the Fed will unwind stimulus by a much larger amount.
That view was expressed in the dollar/yen pair, which fell from a seven-week high of 100.62 yen hit on Wednesday to 99.30 yen, down 0.6 percent on the day.
"It looks like the Fed will only make a modest $10 billion tapering next week. So investors are adjusting their positions accordingly," said Jane Foley, senior currency analyst at Rabobank. "The Fed will be very careful with tapering and will probably only dip its toe."
Citi economists expect $10-15 billion of Fed tapering and no change to the withdrawal timetable, an outcome that Steven Englander, Citi's global head of G10 FX Strategy, said would be neutral, or even slightly hawkish, relative to expectations.
Reflecting nervousness before the Fed meeting, euro/dollar and dollar/yen one-week implied volatilities - a gauge of how sharp price swings will be in the near term - shot up.
The one-week euro/dollar implied vol was trading at around 7.85 percent, much higher than the one-month implied vol around 7.2 percent. The one-week dollar/yen implied vols were also trading above one-month implied vols.