Fears that policymakers around the world will be slow to support the flagging global recovery lifted the yen on Tuesday, weighed on Asian and European stocks and gave further fuel to a five-month rally in U.S. and Japanese government bonds.
Japan's Nikkei stock index led declines in the region, tumbling 3.6 percent, as investors grew more concerned that officials were not going to halt the relentless rise in the yen, which has gained 11 percent since May.
Leading European stocks <.FTEU3> fell 1.2 percent in early trade, while S&P 500 futures <.SPX> were down 1.5 percent, pointing to a weaker opening on Wall Street as investors braced for what is expected to be more gloomy economic U.S. data.
With governments, especially in fiscally weak advanced economies, wary of new stimulus spending to support their recoveries, safety has been the name of the game for investors in August.
Gold prices have risen around 5 percent this month, on track for the largest monthly gain since April, while the benchmark yield on the 10-year U.S. Treasury note dropped 39 basis points in August, its biggest drop since December 2008.
Investors ignored slightly stronger-than-expected U.S. consumption data overnight and focused on the August U.S. payrolls report due on Friday to see if private sector hiring held up despite expected layoffs in the public sector.
A disappointing payrolls figure for a third consecutive month along with poor readings of housing and manufacturing data will probably depress bond yields further and put upward pressure on the yen, which is near a 15-year high against the dollar.
Though the U.S. spending data yesterday wasn't bad, it's the indicators out later this week that are the really important ones, and predictions for these are really raising fears about the economic recovery, said Takashi Ushio, head of the investment strategy division at Marusan Securities in Tokyo.
U.S. housing, consumer and regional business data are all expected later in the day.
In Japan, the Nikkei share average <.N225> suffered its worst single-day decline since June 7, led by a mix of technology and retailing stocks.
The Nikkei has tumbled more than 7 percent in August, set for the largest monthly decline since May, on worries that the global recovery may be stalling and as the surging yen threatened to curb exports, which have been driving Japan's fragile recovery.
The MSCI index of Asia Pacific stocks outside Japan fell 1.6 percent <.MIAPJ0000PUS>, with commodity-related shares the biggest drag on fears of weaker demand for raw materials.
The region has fared better than others, however, thanks to its relatively strong growth prospects. The Asia Pacific ex-Japan index is down 4 percent so far this year, compared with a 7 percent decline on the MSCI world equities index <.MIWD00000PUS>.
The yen's four-month rise against the dollar is its longest string of gains since 2008. On Tuesday, the dollar was down 0.6 percent at 84.15 yen, near a 15-year low of 83.58 yen touched last week.
The Bank of Japan boosted a cheap loan scheme on Monday after an emergency meeting, but investors saw the move as a minimal, symbolic gesture that will do little to halt the yen's climb.
Market players may now test the government's resolve to back its words with yen-selling intervention, analysts said, though few expect it to move any time soon unless the currency's gains accelerate.
Much of the currency's rise has been attributable to factors outside of Tokyo's control: prolonged U.S. dollar weakness on fears it may be sliding back into recession, and a flight to so-called safe havens like the yen as investors shun riskier global assets.
Nevertheless, if U.S. economic data due this week pushes the yen higher, Japan may indeed intervene, said Etsuko Yamashita, chief economist at Sumitomo Mitsui Banking Corp.
The New Zealand dollar dropped 1.3 percent against the yen to 58.86 yen after a major finance company in New Zealand failed.
Government bonds rose as equity markets sagged.
The 10-year U.S. Treasury yield slipped to 2.53 percent from 2.55 percent late on Friday in New York. Investors have been buying longer-dated paper for the extra bit of yield, causing the yield advantage of 10-year notes over 2-year notes to shrink by 33 basis points in August.
After a sharp drop on Monday, Japanese government bond futures rose 0.28 point to 142.73.
However, supply concerns could haunt long-maturity paper after Japan's Prime Minister Naoto Kan said the government could compile an extra budget if necessary, after the cabinet decided on Monday to compile economic steps using reserves from this fiscal year's budget.
(Additional reporting by Elaine Lies and Hideyuki Sano in TOKYO)
(Editing by Kim Coghill)