However, the threat of a tropical storm in the Gulf of Mexico turning into a fully-fledged hurricane and hitting oil supplies supported crude prices.

Major risk asset markets have enjoyed broad-based gains over the past month due to hopes for a third round of monetary easing by the U.S. Federal Reserve and a promise from the European Central Bank to do everything necessary to save the euro.

But after the rallies, which saw the euro touch a seven-week high on Thursday of $1.2590, investors are looking for more clarity on the next steps. The single currency was virtually flat on Tuesday at $1.2505.

"Markets have priced in too much optimism of late which has seen traders finally question the likelihood of central banks delivering on what the market had led itself to believe would happen," said Andrew Taylor, market strategist at GFT Global.

Growth worries have returned to haunt the markets after Japan's government cut its forecast for the economy, citing slowdowns in the United States and China, as well as Europe's debt crisis.

This followed a weak August reading of business sentiment in Germany on Monday and last week's purchasing manager's reports which painted a picture of economic malaise stretching from Beijing to Berlin.

The price of iron ore, coal and other commodities have fallen sharply in reaction to concerns about the world economy, and the commodity-linked Australian dollar hit a fresh five-week low of $1.0345.

Spain also said on Tuesday its recession had deepened in the second quarter as domestic spending slumped in the wake of tough austerity measures aimed at tackling the government's fiscal problems.

STIMULUS EYED

Traders are now looking ahead to Friday's speech by U.S. Federal Reserve Chairman Ben Bernanke at an annual meeting of central bankers at Jackson Hole, Wyoming, for a signal that more monetary easing is likely.

Uncertainty about how the European Central Bank's scheme for buying government bonds will look and whether it will ease the euro zone debt crisis added to the cautious tone in risk asset markets.

Top ECB policymaker Joerg Asmussen said on Monday that the ECB's plan would ensure countries whose bonds the central bank bought did not soft-peddle on reforms. He did not say when the bank would begin buying but did made clear the plan would go ahead despite opposition from Germany's Bundesbank.

"The newsflow out of the ECB still leaves a lot of room for surprises, both on the upside and on the downside," said Elwin de Groot, senior market economist at Rabobank.

"Markets want to see strong commitment from the ECB that it is willing and able to pin down (Spanish and Italian) yields to levels much lower that they have been at lately," he said.

Ten-year German government bond yields were flat at 1.34 percent but this could change on Thursday when Italy will offer up to 6.5 billion euros of new five- and 10-year bonds.

This will be the first auction of longer-term Italian debt since ECB President Mario Draghi said in late July he was ready to do whatever it took to preserve the euro.

His comments provoked a 14 percent rally in the euro zone's blue-chip stock index, the Euro STOXX 50, but this index was retreating on Tuesday, mirroring overnight losses in Asia, on the uncertain growth outlook.

Global shares, as measured by the MSCI world equity index, were also lower on the economic worries, dipping 0.25 percent to 323.55 points and on track for a fifth straight day of losses.

Oil prices were holding steady with Brent crude around $112 a barrel as markets watched the progress of Tropical Storm Isaac towards the oil rigs and production facilities in the Gulf of Mexico.

Storm damage could prompt refiners to cut crude oil purchases in coming weeks, adding to concerns that the U.S. government could release some of its strategic oil reserves to rein in prices, traders said.

"Right now the focus is on supply disruptions in the crude market. The supply-risk premium is keeping prices supported," said Natalie Rampano, commodity strategist at ANZ.

Gold joined other risk assets in edging lower after rising to its highest in over four months in the previous session, as caution prevailed ahead of the Wyoming central bankers meeting.

Spot gold edged down 0.2 percent to $1,660.10 an ounce, having risen to $1,676.45 on Monday, its highest level since mid-April.

(Additional reporting by Marius Zaharia; Editing by Alastair Macdonald and Anna Willard)

• A Permanent Economic Emergency