GLOBAL MARKETS-Oil, stocks slide on demand worries from China

* Wall Street slides after equity sell-off in China

* China's equities fall stirs fears on economic recovery

* Yen hits 7-week high on risk aversion, Japanese election

* Oil drops to under $70 a barrel, eyes weaker equities (Updates with close of U.S. markets)

By Herbert Lash

NEW YORK, Aug 31 (Reuters) - A sharp sell-off in Chinese stocks raised doubts about China's ability to lead an economic recovery, dragging down equity markets around the world on Monday and knocking crude prices down almost 4 percent on demand worries.

Risk aversion helped drive the yen to a seven-week high against the dollar and to rise against other currencies. The yen was also buoyed by a decisive opposition victory in Japan, which sparked hopes that new policies will help support consumer spending and fuel the economy. See: [ID:nN31441465]

The Shanghai Composite Index .SSEC> fell 6.7 percent to a three-month closing low, adding to losses in August that marked the second-biggest monthly loss in 15 years. Investors are worried that company earnings do not justify stock valuations. ID:nHKG349309

Selling in Asian markets was widespread, hitting consumer discretionary, energy, telecommunications and materials sectors, while U.S. markets fell about 1 percent before paring some losses.

"People look to China to be one of the ringleaders of this global economic recovery, and Chinese equity and commodity markets have foreshadowed moves in global markets, so people are keeping a very close eye on China," said Matthew Zeman, head of trading with LaSalle Futures Group in Chicago.

"If we start to see instability there, it's going to really unnerve people, and that's exactly what we are seeing today."

The Dow Jones industrial average <.DJI> closed down 47.92 points, or 0.50 percent, at 9,496.28. The Standard & Poor's 500 Index <.SPX> fell 8.31 points, or 0.81 percent, at 1,020.62. The Nasdaq Composite Index <.IXIC> slid 19.71 points, or 0.97 percent, at 2,009.06.

The drop in crude prices hurt oil stocks, with the S&P Energy index <.GSPE> sliding 1.8 percent. Exxon Mobil Corp fell 1.4 percent and Chevron Corp lost 1.1 percent. The two oil behemoths were big drags on the Dow.

American International Group Inc fell almost 10 percent after Barron's said over the weekend that the insurer was overpriced, and the publication recommended that investors take profits in Citigroup Inc, which fell 4.4 percent.

Shares in Europe also fell. The FTSEurofirst 300 .FTEU3> index of top regional shares slid 0.7 percent to close at 972.02 points, after setting a 10-month high on Friday.

Markets in London were closed for the British bank holiday.

U.S. crude for October delivery settled down $2.78, or 3.8 percent, at $69.96 a barrel, having fallen as low as $69.13 in intraday trade. In London, Brent crude settled down $3.14 at $69.65 a barrel.

Copper pulled back from 11-month highs after the Chinese stock sell-off spurred investor doubts about demand growth and the strength of recovery. [ID:nSHA259266]

Copper for December delivery in New York sank 12.40 cents, or 4.2 percent, to settle at $2.8265 a pound.

The dollar fell 0.6 percent to 93.05 yen , according to Reuters data, its weakest level since mid-July.

The euro lost 0.3 percent to 133.41 yen , while it rose 0.3 percent against the dollar to $1.4337 .

The dollar lost its safe-haven bid, giving up gains versus the euro, after data showed business activity in the U.S. Midwest picked up at a faster pace than expected in August. The Institute for Supply Management-Chicago business barometer rose to 50.0 from 43.4 in July. ID:nN28382729

"The Chicago PMI report is further indication that the U.S. economy is starting to improve," said Shaun Osborne, chief currency strategist at TD Securities in Toronto. "Overall, the data eased risk aversion a little bit, with positive data negative for the dollar and yen."

In the Treasuries market, U.S. government bonds edged higher in thin trade, helped by global equity losses. Price moves were held in check as investors awaited a huge slate of data this week. [ID:nN31320531]

The benchmark 10-year note US10YT=RR was in and out of positive and negative territory during the early part of the session.

The benchmark 10-year Treasury note traded 11/32 higher in price to yield 3.41 percent.

Benchmark euro zone government bonds slipped, with strong technical support mostly absorbing a wave of selling on the back of the unexpectedly strong rebound in U.S. regional business activity. [ID:nLV325985]

Gold futures trimmed losses but still ended lower. [ID:nLV111673] The positive link between gold and equities market has been on the rise, as the metal is used as a hedge against inflation and erosion of portfolio values.

U.S. December gold futures settled down $5.30 at $953.50 in New York.

Tokyo's Nikkei share average .N225> fell 0.4 percent and the MSCI index of Asia Pacific stocks traded outside Japan .MIAPJ0000PUS slid 1.2 percent. (Reporting by Ryan Vlastelica, Edward McAllister, Wanfeng Zhou, Gertrude Chavez-Dreyfuss, Burton Frierson in New York; Emelia Sithole-Matarise, Brian Gorman and Dominic Lau in London; writing by Herbert Lash; Editing by Leslie Adler)