FOREX-Dollar holds near 4-week low as Fed stimulus decision looms
* Dollar index steady, not very far from Monday's 4-week low
Focus on Fed's 2-day policy meeting that starts Tuesday
* Market expects Fed to announce modest tapering of stimulus
By Masayuki Kitano and Hideyuki Sano
SINGAPORE/TOKYO, Sept 17 (Reuters) - The dollar wallowed near a four-week low on Tuesday as traders waited with bated breath for the outcome of the Federal Reserve's two-day policy meeting at which it's expected to announce a modest reduction in its bond-buying stimulus.
The dollar was little changed versus a basket of currencies at 81.312, after having set a four-week low of 80.968 the previous day.
The greenback had retreated on Monday after Lawrence Summers' withdrawal from the race to lead the Federal Reserve reduced expectations of a faster pace of monetary policy tightening by the U.S. central bank.
The decision by the former U.S. Treasury secretary - who is regarded by investors as relatively hawkish - left Federal Reserve Vice Chair Janet Yellen as the front-runner. Traders said the Fed is likely to continue a slow, cautious approach to tightening policy if Yellen is named to replace current Chairman Ben Bernanke.
That had added to pressure versus the dollar, which has struggled recently as disappointing economic data led to market expectations that the Fed would reduce its $85 billion monthly bond-buying stimulus by only a modest $10 billion after its two-day policy meeting starting on Tuesday.
Still, with the Fed looking set to take its first, albeit small, step to wind back its stimulus, investors will be focusing on the Fed's guidance on its future policy stance.
"On top of the size of tapering, what's more important this time is the Fed's forecast of interest rates in 2016, which will give markets an idea on the pace of future rate hikes," said Sho Aoyama, senior market analyst at Mizuho Securities.
Analysts say rate hike expectations hold the key because of their impact on short-term U.S. bond yields and thereby the dollar's yield attraction.
A faster pace of rate increases would make the dollar more attractive given that many other central banks, such as the European Central Bank and the Bank of Japan, are perceived to be nowhere near tightening.
"Lots to look for, and there are so many possible combinations, it's hard to predict in advance," said Gareth Berry, Singapore-based G10 FX strategist for UBS, referring to how the dollar might react to the Fed's policy meeting.
"But by and large, there should be enough...to convince people that we're at the early stages of a multi-year U.S. dollar broad-based advance," Berry said.
The euro held steady near $1.3333, staying below a near three-week high of $1.3385 set on Monday.
Against the yen, the dollar rose 0.2 percent to 99.27 yen , having bounced back from Monday's two-week low of 98.45 yen.
"It seems like there's fairly firm support around 98.40. I don't expect the dollar to fall sharply below that level," said a trader at a Japanese bank.
The British pound hovered near an eight-month high hit on Monday as it drew support from a string of solid UK economic data in recent weeks.
The pound held steady at $1.5895, after having risen to $1.5963 on Monday, its highest since January.