* Dollar slides as U.S. government pauses some services
* Equity, debt mostly firmer, anticipating early resolution
* Gold edges higher on limited safe haven demand
* Italian debt falls before key government vote
By Richard Hubbard
LONDON, Oct 1 The first American government shutdown in 17 years weakened the dollar on Tuesday, sending it to an eight-month low against the euro, but otherwise left equity markets firmer while U.S. Treasury bonds fell.
Investors saw the shutdown as likely to be temporary, and also as a factor that could further delay the U.S. Federal Reserve's plans to start scaling back its monetary stimulus.
U.S. Federal government agencies have begun a partial shutdown after lawmakers failed to pass a temporary spending bill before a midnight deadline, threatening the salaries of up to a million workers.
"We do not know how long this impasse in the U.S. will last. If it persists, there is a chance it will hurt economic growth and affect chances of Fed tapering," said Daragh Maher, strategist at HSBC.
The dollar bore the brunt of the response, hitting a 1-1/2 year low against the safe-haven Swiss franc and a near 8-month low against a basket of widely-traded currencies. The falls lifted the euro to an 8-month high of $1.3589.
"In the short term, it's better to avoid the dollar," Maher said.
However, U.S. stock index futures pointed to gains when Wall Street opens later with the broad S&P stock contract edging up 0.4 percent. The price of the 10-year U.S. Treasury note, a bedrock reference for bond markets, has fallen, lifting the yield 3 basis points to 2.645 percent.
Europe's broad FTSEurofirst 300 index, extending a stellar performance in the September quarter, inched up 0.3 percent though was not far from a three-week low.
MSCI's world equity index, which tracks shares in 45 countries, was up 0.2 percent by midday in Europe, helped by gains in Asia after investors anticipating the news had triggered its biggest daily fall of September on Monday.
"The U.S. shutdown is a central point for the markets, but as long as the hope for just a temporary shutdown exists, it will not be a strong burden for equities," Christian Stocker, equity strategist at UniCredit said.
Gold, another traditional safe haven asset, popped higher after the shutdown became apparent, hitting $1,331.50 an ounce, though was well within its recent $1,300 to 1,350 range.
The bigger issue facing investors is the implications of the political dysfunction in Washington for this month's negotiations on raising the U.S. government's $16.7 trillion borrowing limit, needed to avoid a default on its debt mountain.
"The real focus for markets is Oct. 17 when the debt ceiling issue will come to the fore again," said Richard Lewis, head of global equities at Fidelity Worldwide Investment.
"This is going to be much more important because a failure to extend the debt ceiling would stop coupon payments on bonds, creating a technical default that would cause a riot in bond markets," he said in a note.
Markets were also absorbing mixed readings on economic activity across the manufacturing sector for September and a promise of a $50 billion stimulus package by Japan's government, designed to offset the impact of a sales tax hike next April.
Japan's move came after a closely-watched central bank survey showed sentiment among domestic manufacturer's had improved sharply in the three months to September to reach a near six-year high.
A separate euro zone factory activity survey revealed growth, albeit at a slower pace than previously. In China, factories expanded only slightly last month, raising questions over the strength of its nascent recovery.
Italian bonds rose a day before Prime Minister Enrico Letta was due to face a vote of confidence intended to resolve tensions threatening the ruling coalition.
The yield on the benchmark 10-year Italian government bond fell 2 basis points at 4.55 percent though traders said talk of further liquidity support from the European Central Bank could also be helping.
The ECB holds a policy meeting on Wednesday and is expected to stick to its accommodative policy course..
Brent crude fell to near $108 a barrel, not far from a 7-week low, on worries that the U.S. government shutdown may crimp oil demand. U.S. crude was at $102.29, down 5 cents.