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UPDATE 2-Brent holds near 7-wk high above $110 as Ukraine crisis worsens

* Ukraine forces kill up to 5 rebels; Russia starts drill near border

* Libya rebels warn Tripoli oil ports to stay closed unless deal implemented

* Brent set to post 3rd week of gains, longest since early Sept

* Surplus global oil output capacity rises in March, April -EIA

(Adds detail, updates prices)

SINGAPORE, April 25 (Reuters) - Brent futures held near seven-week highs above $110 a barrel on Friday as escalating tensions over Ukraine between top oil producer Russia and the West worsened supply disruption fears.

Ukrainian forces killed up to five pro-Moscow rebels in what amounted to the first use of lethal force to recapture territory from the fighters, with the United States accusing Russia of trying to destabilise the region.

Yet, prices were under pressure from a U.S. government report that said the amount of oil producers can quickly bring on line rose slightly.

Brent crude, set to post a third week of gains in its longest such streak since one that ended in early September, fell 4 cents to $110.29 a barrel by 0641 GMT, after settling up $1.22.

U.S. oil slipped 17 cents to $101.95, after ending 50 cents up.

"There was use of military aggression by Ukraine against pro-Russian rebels and that has helped prop up prices," said Tan Chee Tat, investment analyst at Singapore's Phillip Futures. "The escalation in the crisis is sparking off the rise in oil."

U.S. Secretary of State John Kerry suggested that the United States is drawing closer to imposing more sanctions on Russia by saying time was running out for a change in course. Moscow in turn demanded the United States force the Ukrainian authorities to halt its military operation, putting the onus on Washington to ease tensions.

The unfolding crisis would keep Brent supported between $105 and $110 a barrel, and the U.S. benchmark above $100 a barrel, said Phillip Futures' Tan.

The crisis prompted investors to shun risk assets, weighing on Asian shares and base metals.

Oil, particularly Brent, is also drawing support from the repeated hiccups in Libya's attempts to boost exports.

A rebel group in the country's east that controls several ports said on Thursday it would not reopen the Ras Lanuf and Es Sider terminals unless the Tripoli government implemented its part of a deal to end the oil blockade.

"They have been in talks, but the ground reality is that there has been no pick in exports from Libya," said a trader with a Western trading house said. "Nobody expected it to be quick, but hopes of a smooth ramp-up in exports are fading."

SUPPORTING OIL

In addition, an improving economic outlook after a stumbling start to the year for top oil consumer the United States helped put a floor under prices.

Orders for long-lasting U.S. manufactured goods rose more than expected in March and a measure of business capital spending plans surged.

"It is not realistic to expect a full series of positive numbers," said Tan at Phillip Futures. "Despite some recent weak numbers, there is growing evidence that the U.S. economy is improving and the outlook is getting better."

However, the supply outlook for oil has also improved.

A report by the Energy Information Administration (EIA) showed global surplus oil production capacity, an important factor influencing world crude prices, averaged 2.1 million barrels per day in March and April.

The extra capacity level was up 200,000 bpd from the average for January and February.

(Editing by Tom Hogue and Joseph Radford)