* World shares gain 1.8 pct on hopes for 'fiscal cliff' progress
* Oil over $110 a barrel as Middle East tension adds support
* Dollar touches 7-month high vs yen
By Ryan Vlastelica
NEW YORK, Nov 19 (Reuters) - World stock markets and commodities surged on Monday, recovering some of the previous week's sharp losses as traders focused on politicians' comments indicating readiness to compromise to avoid the U.S. "fiscal cliff."
Wall Street stocks climbed more than 1.6 percent, extending a rally that began on Friday, while crude oil was up 3 percent.
U.S. lawmakers indicated compromises were possible in negotiations to avert $600 billion in tax increases and spending cuts due to start in January - the "fiscal cliff" that threatens to send the U.S. economy back into recession.
Democratic Senator Dick Durbin said on CNN, "What I hear is a perceptible change in rhetoric from the other side."
Republican Representative Tom Price, also appearing on CNN, said, "Every member of our caucus appreciates that this fiscal crisis, this challenge that we have, is ever closer."
Opinion polls show that Republicans would shoulder more of the blame if the country goes over the fiscal cliff.
MSCI's world equity index jumped 1.8 percent, in one session erasing the 1.8 percent drop it posted last week. Monday was the best day for the index since Sept. 14.
"At this point, we haven't seen any of the details, so we're still a bit cautious, but optimistic that we will see an agreement reached some time," said Joseph Tanious, global market strategist at J.P. Morgan Funds in New York. "It's become fairly clear that both sides of the aisle are wiling to compromise and want to negotiate."
The Dow Jones industrial average was up 166.80 points, or 1.33 percent, at 12,755.11. The Standard & Poor's 500 Index was up 21.90 points, or 1.61 percent, at 1,381.78. The Nasdaq Composite Index was up 50.63 points, or 1.77 percent, at 2,903.76.
Optimism in Europe over the prospects of a deal this week to release much-needed aid for Greece also lent support.
European officials are expected to discuss a two-year funding plan for Athens at a meeting on Tuesday, which would postpone any longer-term solution until after a September 2013 German general election.
European Central Bank policymaker Joerg Asmussen said at the weekend that the ministers were likely to agree to the deal and leave resolution of a longer-term debt stabilization plan for Greece, at the heart of a disagreement with the IMF, until later.
The euro rose 0.48 percent to $1.28, well above the two-month low of $1.2661 hit last week and near the top end of its recent range, suggesting the foreign exchange market expects an agreement on Greece.
"This message from the ECB would tell me that, yes, what we are heading to this week is an agreement that would keep Greece out of trouble for the next year or so," said Gilles Moec, senior European economist at Deutsche Bank.
European share markets rebounded from last week's lows, mainly on the growing optimism over the U.S. political negotiations.
The FTSE Eurofirst 300 index of top European shares closed 2.3 percent higher, led by sectors tied to the pace of economic growth. Banks climbed 3.6 percent, with U.S. shares of Barclays up 5.6 percent to $15.82.
In the region's main centers, London's FTSE 100, was up 2.4 percent, while Frankfurt's DAX and Paris' CAC-40 rose more than 2.5 percent.
Safe-haven bond markets reflected the stronger risk appetite, with the 10-year U.S. Treasury down 10/32 to yield 1.6165 percent.
The 10-year German government bond fell and its yield rose to 1.362 percent from 1.326 percent on Friday. Traders said there was room for yields to rise if euro zone policymakers reached an agreement at their meeting on Tuesday.
In currency trading, the dollar briefly extended its gains against the yen on expectations a new Japanese government will push the central bank to taking aggressive monetary stimulus measures to boost growth after next month's elections.
The greenback was slightly lower against the yen at 81.18. Earlier, it rose to its highest level since April 25.
The Bank of Japan began a two-day meeting on Monday but was not expected to take any new policy steps before the Dec. 16 vote.
The rising hopes of a deal on closing the U.S. budget gap, which has clouded the outlook for global growth, spread through commodity markets, lifting oil, copper and gold.
Copper rallied 2.4 percent to $7,785.75 a ton on the London Metal Exchange, and gold rose $19.52 to $1,733.2 an ounce.
A 0.5 percent drop in the dollar index, which had eased from a two-month high hit on Friday, added to demand by making commodities priced in the greenback more affordable for buyers holding other currencies.
Brent crude rose above $110 a barrel as the escalating violence between Israel and the Palestinians fueled concern about supplies from the Middle East.
Investors fear the conflict may draw in other countries and possibly disrupt energy exports from the region, which supplies more than a third of the world's crude.
Brent crude for January delivery was up 2.5 percent and U.S. crude futures added 3 percent.