* Fed holds rates, says U.S. contraction slowing
* Dollar hits session highs vs the yen, just shy of 98
* Dollar cuts losses vs euro as 10-year yields climb
* Weak U.S. GDP to ensure rates will remain near-zero (Updates prices, adds comments)
By Gertrude Chavez-Dreyfuss
NEW YORK, April 29 (Reuters) - The U.S. dollar rose against the yen but lost ground to the euro on Wednesday after the Federal Reserve made no changes to its monetary policy but offered a less bleak outlook on the U.S. economy.
In a statement after a two-day policy meeting, the Federal Reserve said it would keep short term interest rates exceptionally low for an extended period but it noted that the economic outlook had improved modestly since its March meeting. For the Fed statement, click on [ID:nN29542464].
The Fed statement contributed to improving sentiment and boosted risk appetite, easing demand for then yen and greenback as safehavens.
"The tone seemed to have been a bit more optimistic than in previous meetings," said Greg Salvaggio, senior vice president of capital markets at Tempus Consulting in Washington.
The Fed is "noting modest signs of improvement and will keep the target at the present levels, as expected. For the currency markets, the Fed's statement seems to be helping the dollar a bit, in particular against the yen."
Rising risk tolerance undermined the yen, which along with the U.S. dollar had risen earlier in the week when uncertainty about the impact of a spread in swine flu had sparked safe-haven buying in the two currencies considered low risk.
In late afternoon trading, the dollar was up 1.1 percent against the yen to 97.49 <JPY=>. The euro rose 0.9 percent versus the dollar to $1.3265 <EUR=>.
The dollar also managed to shrugg off a worse-than-expected report on U.S. economic growth with first quarter GDP contracting by 6.1 percent on an annualized basis, compared to expectations for a . For details, see [ID:N29396010]
U.S. GDP has now fallen for three straight quarters for the first time since 1974-75, but Wall Street stocks rose as the contraction was driven by a fall inventories and consumer spending rose 2.2 pct.
The GDP report reinforces the notion that "short-term interest rates will remain close to zero for some time," said Vassili Serebriakov, senior currency strategist at Wells Fargo in New York.
Higher-yielding currencies also rose against both the dollar and the yen. The Australian dollar <AUD=> rose 2.7 percent against the U.S. dollar while the New Zealand dollar <NZD=> gained 2.5 percent against the greenback.
The Australian <AUDJPY=R> and New Zealand <NZDJPY=R> currencies both climbed more than 3.0 percent against the yen late in the New York session.
(Additional reporting by Vivianne Rodrigues and Nick Olivari)