Oil prices dropped more than 2 percent on Tuesday as concerns about the impact of an interest rate increase on India's demand and gains in the dollar helped spark a technical sell off.

Brent crude broke under the 20-day moving average that has supported prices since November in late-afternoon trade, sending oil tumbling as the dollar rose against the euro ahead of a statement by Portugal's caretaker Prime Minister Jose Socrates.

The slide in oil has come in response to equities losses and the dollar entering positive territory, said Matt Smith of Summit Energy, Louisville, Kentucky.

There was a bit of euphoria in equities markets yesterday following Bin Laden's death. Today the focus has returned to risk aversion and the economy.

Oil's negative correlation with the dollar -- a trade where investors shift cash between the greenback and crude and other commodities as risk aversion rises and falls -- hit the highest level since late November.

Brent crude for June traded down $2.84 to $122.28 a barrel by 2:38 p.m. EDT. U.S. crude for June fell $2.47 to settle at $111.05 a barrel.

The drop in crude added to earlier losses, which were sparked by India's central bank move to raise interest rates more than expected, which could damp the nation's demand growth.

There are concerns that higher interest rates could be a growth killer and that could be what is weighing down oil prices. India is one of the biggest emerging economies where a lot of global growth will come from, said Michael Hewson, an analyst at CMC Markets.

Brent crude trading volumes rebounded after being dampened by a holiday in Britain. U.S. trading volumes were on pace to trade about half million lots, near the 30-day average.

Traders also eyed news that China's state oil giants PetroChina <0857.HK> and Sinopec <0386.HK> have asked the government to cut a fuel consumption tax to reduce their refining losses.

The government of China, the world's No. 2 oil consumer, has recently taken action, including raising interest rates and bank reserve requirements, attempting to slow inflation and cool its economy.

RISING U.S. INVENTORIES

Markets were awaiting weekly U.S. inventory data, which was a expected to show a rise in U.S. crude oil inventories for last week, with imports outpacing refinery demand, according to Monday's Reuters survey of analysts.

Gasoline stockpiles were seen rising last week after 10-straight weeks of declines, with traders closely watching for further signs of demand slowing due to rising prices.

Gasoline prices hit $3.96 a gallon, up 8.4 cents in the latest week, according to the Energy Department. Weekly data from MasterCard Advisors' SpendingPulse report showed demand dipped 0.6 percent from year-ago levels last week.

The industry group American Petroleum Institute's report is due at 4:30 p.m. EDT (2030 GMT) on Tuesday, with the U.S. Energy Information Administration's report following on Wednesday.

(Additional reporting by Gene Ramos in New York, Alex Lawler and Claire Milhench in London and Francis Kan in Singapore;editing by Sofina Mirza-Reid and Matthew Robinson)

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