The Nikkei stock average fell for a second straight day on Thursday to break below its 200-day moving average, hurt by weak US economic data and a deadlock in talks to raise the US debt ceiling.
While top US lawmakers worked behind the scenes on a compromise, looking to salvage a last-minute deal from rival debt plans, investors grew increasingly jittery ahead of the August 2 deadline for the United States to avoid a default.
"Increasingly concerned about the possibility of a US credit downgrade, foreigners are cutting back on risk positions," said Fumiyuki Takahashi, managing director at Barclays Capital.
"The standard view that 'America is strong' could be in jeopardy and if confidence in the US is damaged, the stock market may not be able to avoid a serious sell-off."
The three main ratings agencies have all warned the United States' coveted AAA credit rating status would be in serious jeopardy if the White House and Congressional Republicans cannot reach a deficit reduction agreement.
Takahashi said the Nikkei could fall by 200-300 points if United States' AAA credit rating status was lowered, but the benchmark is expected to be supported above 9,500.
Adding to US-related woes, concerns remain about a recovery in the US economy with new orders for long-lasting U.S. manufactured goods falling unexpectedly in June, weighed down by weak receipts for transportation equipment.
The benchmark Nikkei fell 1.1% to 9,935.07 by the midday break after breaching its 200-day moving average of 9,919 earlier while the broader Topix index was down 1.0% at 850.84.
Hopes for more strong quarterly results from the Japanese corporate sector lent some support to the Tokyo market, with companies like Hitachi Construction Machinery outperforming after robust earnings.
"Buying on dips in companies with good earnings may continue, but exporters may not fare well for the time being as long as there are concerns about the US economy," said Hideyuki Okoshi, general manager at Chibagin Securities.
Hitachi Construction Machinery rose 4.6% to 1,759 yen after saying its April-June net profit surged 65% on the year to 2.3 billion yen (USD 29.5 million) while operating profit climbed 91% to 8.2 billion yen.
Panasonic rose 2.0% to 942 yen after sources said the company will sell its Sanyo Electric unit's washing machine and refrigerator operations in Japan and Southeast Asia to China's Haier Group Co for about 10 billion yen (USD 130 million).
Fujitsu General was up 5.6% at 626 yen, hitting a three-and-half year high of 636 yen at one point after the air-conditioner maker revised up its first-half profit 44% to 6.5 billion yen (USD 83.4 million), citing strong sales.
But Advantest, the world's No 2 maker of equipment to make chips, plunged 7.0% to 1,399 yen after the company said quarterly operating profit fell 57% from a year earlier and warned that orders could level off in the current quarter.
