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UPDATE 1-S&P cuts outlook on Japanese bonds, cites heavy debt

* S&P cuts Japan outlook to negative from stable

* S&P says Japan’s fiscal flexibility has diminished

* Yen, government bond futures dip after outlook downgrade (Adds more from S&P, market reaction, changes slug from ECONOMY-JAPAN-DEBT/S&P)

TOKYO, Jan 26 (Reuters) - Standard and Poor’s ratings agency cut its outlook for Japanese government debt on Tuesday, citing reduced wiggle room on fiscal policy and voicing disappointment with the new government’s budget consolidation plans.

S&P cut its outlook on Japan’s long-term sovereign debt rating to negative from stable, while maintaining its AA long-term and A-1+ short-term local and foreign currency sovereign credit ratings.

“The outlook change reflects our view that the Japanese government’s diminishing economic policy flexibility may lead to a downgrade unless measures can be taken to stem fiscal and deflationary pressures,” the agency said in a statement.

“Moreover, the policies of the new Democratic Party of Japan (DPJ) government point to a slower pace of fiscal consolidation than we had previously expected.”

The yen JPY= fell after the outlook cut, weakening as far as 90.4 to the dollar, from the day's high of 89.53 on the EBS trading platform and lead 10-year Japanese bond futures 1JGBv1 slipped in after-hours trade.

Japan’s public debt is approaching 200 percent of gross domestic product, by far the highest level in the developed world, and financial markets are concerned that the four-month old government will spend more to bolster the economy ahead of a mid-year election.

S&P said weak economic performance and lack of policy initiatives that could lift Japan’s medium-term growth could bring about a cut in Japan’s ratings by a one notch. On the other hand, policies that would help get government debt back under control, would allow the ratings to remain at current levels, it said. (Reporting by Masayuki Kitano; Writing by Tomasz Janowski; Editing by Neil Fullick) ((masayuki.kitano@thomsonreuters.com; Reuters Messaging: masayuki.kitano.reuters.com@reuters.net; +81-3-6441-1872)) ((If you have a query or comment on this story, send an email to news.feedback.asia@thomsonreuters.com))

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