* Wall St stumbles as discretionary stocks weigh
* Banks pull European shares lower after Asia retreats
* Yen, bond yields rise after Japan cabinet backs fiscal package
* U.S. crude back below $40 as oil erases early gains (Updates with U.S. afternoon trading)
By Saqib Iqbal Ahmed
NEW YORK, Aug 2 (Reuters) - Weak U.S. economic data and losses in consumer discretionary shares drove Wall Street stocks down on Tuesday, further dragging on global equity prices after the approval of a fiscal stimulus package by Japan's cabinet failed to cheer markets.
Data showing muted U.S. inflation hit the dollar, which dropped to a six-week low against a basket of currencies, while persistent worries of a supply glut sent U.S. crude prices back below $40 a barrel.
Wall Street was on pace for its worst day in more than a month after data indicated inflation was still below the U.S. Federal Reserve's 2 percent target, despite a better-than-expected rise in consumer spending in June. long can stay you stay in a slow growth environment, sub 2 percent? That's why people are actually looking for inflation," said Joe Saluzzi, co-manager of trading at Themis Trading in Chatham, New Jersey.
"Right now the market wants growth and they want the Fed to raise (interest rates), they'd love to see the Fed raise, but there has got to be a reason for that raise and right now there isn't."
The dip in U.S. stocks weighed on the MSCI's world stocks index .MIWD00000PUS , which tracks shares in 45 nations and fell 0.67 percent.
The index added to the initial losses suffered earlier in the session after Japan's approval of 13.5 trillion yen ($132 billion) in fiscal measures failed to boost investor sentiment.
The Dow Jones industrial average .DJI fell 99.99 points, or 0.54 percent, to 18,304.52, the S&P 500 .SPX lost 14.51 points, or 0.67 percent, to 2,156.33 and the Nasdaq Composite .IXIC dropped 41.62 points, or 0.8 percent, to 5,142.58.
Consumer discretionary stocks were hit hard as shares of Ford F.N and General Motors (NYSE:GM) GM.N fell after the two U.S. automakers reported disappointing July vehicle sales.
European stocks dropped to a three-week low, dragged down by banks, as Commerzbank's CBKG.DE shares slid to a record low after the bank warned its earnings would fall this year.
Europe's broad FTSEurofirst 300 index .FTEU3 closed down 1.33 percent at 1,321.31. currency markets, the dollar fell against a basket of currencies, pressured by expectations the Fed would delay raising interest rates. The dollar index .DXY was down 0.64 percent at 95.096. the yen, the dollar was down 1.54 percent to 100.80 yen JPY= , after earlier touching a three-week low.
Oil prices fell more than 1 percent, erasing early gains as persistent worries of a supply glut offset the impact of the weaker dollar that initially supported the market. crude LCOc1 settled down 34 cents, or 0.81 percent, at $41.80 a barrel, while U.S. crude CLc1 settled down 55 cents, or 1.37 percent, at $39.51.
U.S. Treasury yields surged after Japan unveiled the fiscal stimulus measures, dampening demand for U.S. government debt and sending long-dated U.S. yields to their highest levels in more than a week. 30-year yields US30YT=RR rose the most among U.S. Treasuries and hit 2.332 percent, their highest since July 21, as prices fell more than one full point. Benchmark 10-year yields US10YT=RR hit a six-day high of 1.573 percent.
Spot gold prices XAU= were up 0.87 percent to $1,364.20 an ounce.