Dollar Plunges; Markets Follow : Economy: Currency’s post-World War II low against yen revives inflation concerns and may push Fed to raise interest rates again. Trade deficit takes unexpected jump.

In another blow to world financial markets, the dollar’s value sank on Tuesday below the psychologically key level of 100 Japanese yen, triggering a global selloff in stocks and bonds.

The dollar’s decline to a post-World War II low against the mighty yen took Wall Street by surprise and revived worries about higher inflation and interest rates, the global economy’s recovery and Americans’ living standard--all of which can be affected by swings in the huge but often-arcane world currency markets.

“It’s just a pervasive nervousness about developments all over the world, with inflation fears underlying it all,” said Robert D. Hormats, vice chairman of brokerage Goldman, Sachs International.

The sharp drop in the dollar’s value is likely to pressure the Federal Reserve Board to raise interest rates for a fifth time this year, perhaps as early as next month, in an attempt to support the currency. However, another increase in rates may further threaten the fragile economic recovery in California.

In New York on Tuesday, the dollar’s value fell as low as 99.5 yen from Monday’s close of 101.9 yen, though it rebounded slightly to finish at 100.35 yen.

Early today in Tokyo the dollar rose further, to 101.2 yen, as the Bank of Japan bought dollars and sold yen. Japan’s economic ministers, including Prime Minister Tsutomu Hata, were to hold an emergency meeting at midday that was expected to focus on the currency turmoil.

In Tokyo, the Nikkei stock index was down 175 points to 20,637 at midday today, after falling 338 points on Tuesday. A rising yen could batter Japan’s depressed economy by further raising the cost of its exports to the United States and other countries.

Though the dollar has weakened in recent weeks--from 105 yen in early June--as the U.S. economy has shown signs of slowing and as tensions with North Korea have flared, few experts had expected a break below 100 yen.

But on Tuesday, the government’s report that the nation’s trade deficit jumped 22% to $8.4 billion in April, far exceeding analysts’ estimates, fueled new concerns about the U.S. economy’s long-term trend of consuming more than it produces.

Because a nation’s currency essentially is a gauge of investors’ underlying confidence in the economy, the selloff in the dollar reflected fears that the U.S. economy’s expansion is not sustainable, some analysts said.

Moreover, because a falling dollar can automatically boost prices of goods imported into the United States, the dive below 100 yen magnified inflation jitters that have rattled U.S. markets all year.

The negative sentiment spilled into the stock market Tuesday, where the Dow Jones industrial average dropped 33.93 points to 3,707.97, bringing its loss over the past three sessions to more than 100 points.

Meanwhile, U.S. interest rates rose broadly Tuesday on concerns that the Federal Reserve will be forced to raise short-term rates again soon, in an attempt to defend the dollar. Higher rates tend to attract investment to a country’s fixed-income securities, thereby strengthening its currency.

The Fed, which has tightened credit four times this year to moderate the economy’s growth and thus keep inflation at bay, had signaled in recent weeks that it was content to leave rates alone this summer, confident that the economy was slowing.

But the dollar’s sudden collapse could force the Fed to act as early as its July 5 policy meeting, analysts said Tuesday.

Any additional Fed-induced increase in interest rates would have widespread effects, economists say. Mortgage rates could jump again, hurting the housing market. And any general increase in rates would be especially harmful to California, which still is struggling to emerge from recession.

In addition, higher U.S. interest rates--and a subsequent further slowdown in the U.S. economy--would compound Europe’s economic problems, threatening the Continent’s nascent recovery from a very deep recession in 1993.

Some analysts, however, said they doubted that the Fed will feel compelled to defend the dollar with higher interest rates because the dollar’s problems are viewed as long-term in nature.

“It would be very unusual for the Fed to raise rates to help the dollar, because that is a structural problem” in the economy, said Marshall Acuff, investment strategist at brokerage Smith Barney in New York.

The effect of a Fed rate hike “would last two days, and then the speculators selling the dollar would be back at it,” he said.

The Fed could, however, buy dollars on the open market to help stave off a downward spiral.

Although the Fed intervened in currency markets last month to push the dollar higher--at the U.S. Treasury’s request--the central bank apparently was absent from the market Tuesday.

The Clinton Administration in recent months has sought to talk up the dollar, a reversal of what many experts viewed as the White House’s previous policy of allowing the dollar to gradually decline as a way of making U.S. exports more competitive, especially in Japan.

But on Tuesday, Administration officials only repeated their insistence that the economy’s condition did not justify the dollar’s fall, and they withheld action.

Some Wall Street experts have sought to pin the dollar’s latest slide on what they perceive as the White House’s naivete on economic issues. By talking the dollar lower earlier in the year--effectively making the currency a trade weapon against Japan--the Administration may have set the stage for the current plunge, some investment pros say.

Also, some currency traders said the weakness in the dollar reflects investors’ lack of confidence that the Administration is up to the task of handling the political problems it faces, from North Korea to Bosnia.

Still, Lothar Klausing, an economist with the Dresdner Bank in Frankfurt, said the dollar’s slide might prove to be an overreaction by currency speculators.

Hormats, of Goldman Sachs, said the dollar’s turbulence reflects in part the enormous growth of dollar holdings abroad. During the 1980s, about $170 billion flowed to foreign investors annually because of large trade deficits.

In this decade, those levels have been swollen by foreign direct investment and other factors, so that now the annual outflow is closer to $250 billion a year.

“And if foreigners start seeing that they can’t hold those dollars at a stable currency rate, they can get nervous--and start to sell,” Hormats said. Each decline in the dollar devalues foreigners’ holdings in the United States.

Times staff writer Marjorie Miller in Bonn contributed to this story.

* FINANCIAL FALLOUT: Impact of the falling dollar and widening trade gap. D1, D3