SYDNEY (Reuters) - Japanese shares hit two-month highs on Friday, outperforming the rest of Asia as the yen stayed under pressure ahead of a weekend election that markets hope will clear the way for Prime Minister Shinzo Abe to pursue aggressive reflationary policies.
MSCI's broadest index of Asia-Pacific shares outside Japan <.MIAPJ0000PUS> was flat, with South Korea's KOSPI <.KS11> and Australia's ASX 200 index <.AXJO> both a mere 0.1 percent higher.
In contrast, Tokyo's Nikkei <.N225> rallied 1.0 percent, reaching highs not seen since May 24. It was on track to end the week up nearly 3 percent.
The gains in Japanese stocks precede Sunday's upper house election, which the ruling Liberal Democratic Party (LDP) and its New Komeito Party (NKP) coalition partner are expected to win resoundingly.
"The outcome from this weekend's upper house elections will help determine the ability of the Abe administration to deliver on structural reforms and its long-term growth strategy," Barclays Capital analysts wrote in a report.
"If the LDP-NKP coalition wins control of the upper house and receives a decent mandate for reform, we would remain comfortable with our USD/JPY forecast profile of 103 in 3 months and 105 in 12 months."
However, Japanese firms still worry that a big victory for Abe would allow him to prioritize nationalist policies at the expense of painful structural reform.
For now, the yen has weakened to 100.76 per dollar, the lowest in over a week, while the euro has risen to a seven-week high of 132.04 yen.
Against the dollar, the euro was little changed at $1.3102, having retreated from this week's peak around $1.3179.
Investors are also keeping an eye on a G20 meeting of central bankers and finance ministers taking place in Moscow, looking for reassurance as China rebalances its economy and the Federal Reserve looks to reduce stimulus.
Fed Chairman Ben Bernanke said this week the U.S. central bank still expects to start scaling back its massive bond purchase program later this year, yet he kept the option of changing that plan if the economic outlook were to deteriorate.
Latest data on the U.S. economy suggested the recovery was on track, with factory activity in the Mid-Atlantic region picking up in early July, while new claims for jobless benefits fell last week.
Bernanke told the Senate Banking Committee on Thursday it was too soon to judge if recent "mixed" signals from the U.S. economy would prompt the central bank to delay plans to trim its bond buying this year.
His pledge to be flexible soothed global financial markets this week and helped drive Wall Street to a string of record closing highs.
Commodity markets also took heart, helping copper recover from a one-week trough to $6,913 a metric ton (1.1023 tons), while gold bounced to $1,283 an ounce from this week's low of $1,270.41.
U.S. crude held near 16-month highs above $108 a barrel, further underpinned by signs of a stronger U.S. economy.
(Editing by Eric Meijer)
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