GLOBAL MARKETS-U.S. bond yields fly on deficit fear, dollar up

* U.S. bond yields climb on fiscal policy worries

* Dollar rises on hopes tax cuts will boost U.S. GDP

* S&P 500 ends at highest since September 2008

* Gold falls day after record peak, copper nears high (Updates with U.S. markets' close, Nikkei futures)

By Manuela Badawy

NEW YORK, Dec 8 (Reuters) - U.S. Treasury bond prices sank for the second day on Wednesday, driving yields to a six-month high after an agreement to extend tax cuts fed fears of inflation and a ballooning deficit, while the dollar rose on perceptions the tax cuts could increase economic growth.

Gold tumbled a day after hitting a lifetime high in a profit-taking frenzy prompted in part by the stronger dollar.

On Wall Street, the Standard & Poor's 500 Index closed at its highest level since September 2008, finishing slightly above 1,228, which has been an important technical resistance level. Gains in financial and technology stocks helped buoy the U.S. stock market, offsetting declines caused by the recent surge in bond yields.

U.S. oil futures prices slipped, but remained near two-year highs above $88 a barrel after government data showed an increase in gasoline inventories.

The deal to extend tax cuts enacted during George W. Bush's presidency stoked worries over how the government would pay for the additional stimulus.

For the first time in weeks, investors shifted their attention from concerns about euro-zone debt to U.S. economic fundamentals.

U.S. Treasury prices lost 2 percent in two days after President Barack Obama proposed extending tax cuts aimed at supporting economic growth. The dollar has reacted positively, climbing as investors favor rising rates in the United States compared with other bond markets.

"This tax agreement is a disaster for the U.S. fiscal situation," said Howard Simons, strategist at Bianco Research in Chicago.

For graphic of recent Treasuries moves, see http://r.reuters.com/ruj29q

U.S. stocks closed moderately higher as bank shares, which have risen 10 percent since the start of the month, helped lift the market.

The Dow Jones industrial average <.DJI> rose 13.32 points, or 0.12 percent, to end at 11,372.48, while the Standard & Poor's 500 Index <.SPX> gained 4.53 points, or 0.37 percent, to finish at 1,228.28, and the Nasdaq Composite Index <.IXIC> added 10.67 points, or 0.41 percent, to end at 2,609.16.

The pan-European FTSEurofirst 300 index <.FTEU3> of top shares rose to a fresh 26-month closing high at 1,119.51 points, up 0.35 percent, as financial stocks in Europe advanced. Global stocks measured by the MSCI All-Country World Index <.MIWD00000PUS> fell 0.38 percent.

The December futures contract for the Nikkei 225 stock index <0#NK:> trading in Chicago rose 70 points to 10,275.

TWO SIDES OF BOND SELL-OFF

The sell-off of U.S. Treasuries brought some buyers to the table in an auction of $21 billion of reopened 10-year notes, which was part of $66 billion of coupon-bearing securities sales this week.

Still, sentiment remained strongly bearish heading into the sale of $13 billion of reopened 30-year bonds on Thursday.

The benchmark 10-year U.S. Treasury note was down 1-1/32, with the yield at 3.265 percent. The 2-year U.S. Treasury note was down 6/32, with the yield at 0.624 percent. The 30-year U.S. Treasury bond was down 1-9/32, with the yield at 4.453 percent.

On Tuesday, the U.S. Treasury debt market suffered its worst one-day sell-off in 18 months.

Higher government bond yields tend to support the dollar, as they reflect stronger growth and make some dollar-denominated assets more attractive to investors. The dollar was up against a basket of major currencies, with the U.S. Dollar Index <.DXY> up 0.17 percent at 79.996.

Some analysts believe the U.S. tax cuts could increase the growth in the country's gross domestic product by as much as 2 percentage points in 2011.

The dollar's strength pushed the euro toward important support levels around $1.3200 as the European bloc comes under pressure over high debt levels. The euro dipped 0.02 percent to $1.3260. Against the Japanese yen, the dollar was up 0.65 percent at 84.02.

The rise in U.S. borrowing costs gave the dollar an edge over the euro among yield-hungry investors, also delivering a blow to gold, which has shed 2.5 percent since hitting a record high of $1,430.95 an ounce on Tuesday, as its investment appeal diminishes with a rise in interest rates.

Spot gold lost $19.63, or 1.40 percent, to $1,381.70 an ounce.

The price of gold has jumped 26 percent this year, while silver, which fell in sync with gold on Wednesday, has surged almost 70 percent.

Copper ended sharply higher moving back up against record highs, as supply-side constraints continued to draw in strong investment demand flows, even as the dollar rose and rate-hike concerns mounted in top consumer China.

Three-month copper shot up $245 to close at $9,015 a tonne on the London Metal Exchange, well within striking distance of Tuesday's record high of $9,044.

U.S. light sweet crude oil fell 41 cents, or 0.46 percent, to settle at $88.28 per barrel after data showed a rise in U.S. fuel inventories. (Reporting and writing by Manuela Badawy; Additional reporting by Gertrude Chavez-Dreyfuss, Richard Leong in New York and Amanda Cooper in London; Editing by Jan Paschal)