* Japanese economy minister hopes for "balanced" yen
* Bernanke's Congressional testimony, BOJ meeting in focus
* Dollar index underpinned near three-year high
By Anirban Nag
LONDON, May 21 (Reuters) - The dollar rose against the yen on Tuesday after a minister rowed back on remarks suggesting the Japanese currency had weakened enough, but gains were capped before testimony from the head of the U.S. central bank.
Speculation the Federal Reserve will trim its bond purchases sooner than expected has mounted given signs of an improvement in the U.S. labour market. Chairman Ben Bernanke testifies to Congress on Wednesday and his words will be combed for clues on when the scheme might end.
If Bernanke reiterates his ultra-loose monetary policy stance, the dollar could give up some of its gains against most major currencies. However, any hint asset purchases could be wound down later this year would give the dollar index, which has risen 5 percent this year, a huge boost, traders said.
The index, which measures the dollar against a basket of currencies, was up 0.4 percent at 84.092, not far from Friday's peak of 84.371, its highest since July 2010.
The dollar was up 0.5 percent at 102.75 yen after Japanese Economy Minister Akira Amari said he hoped the yen settled at a level justified by fundamentals and at which the impact on imports and exports was balanced.
On Monday, the yen rose after Amari suggested at the weekend that its strength had been largely corrected. It has shed 15.5 percent in 2013, hitting a 4 1/2-year low of 103.32 on Friday.
"In the larger scheme of things what matters now is what Bernanke has to say. That will determine the outlook for the dollar," said Peter Kinsella, currency strategy at Commerzbank.
"We expect the Fed to err on the side of caution and the subdued inflation numbers we saw recently will give them more time to keep policy easy."
Any drop in the dollar would be temporary as the U.S. economy is still growing while the euro zone is in recession and the Bank of Japan is committed to flooding the market with liquidity to boost inflation to 2 percent.
The BOJ, which began a two-day meeting on Tuesday, is expected to keep policy unchanged but could tinker with its bond-buying plan to curb a recent rise in Japanese yields. Analysts said the yen looked set to resume its recent weakening with Japanese investors likely to hunt higher yields overseas.
"We think yen weakness will continue but at a slower pace," said Sean Yokota, an analyst at SEB. The bank has a dollar/yen forecast of 110 yen and 120 yen by end 2014.
"BOJ will continue to increase its balance sheet and is not afraid to accelerate (bond) purchases if CPI or the economy disappoints," Yokota said, adding the risk reward favoured adding to short yen positions.
The euro was slightly lower on the day at $1.2860, as some companies sold the single currency. The euro was likely to struggle on expectations the European Central Bank may lower its deposit rate to below zero to help the recession-hit economy.