* Nikkei up on week, banks biggest winner after Fed
* Steel sector weak as crude steel output falls
By Hideyuki Sano and Ayai Tomisawa
TOKYO, Sept 22 (Reuters) - Japan's Nikkei share average slipped from a two-year high on Friday after North Korea threatened to test a hydrogen bomb in the Pacific Ocean, ratcheting up tensions with the United States and its allies.
Still, the market logged its second straight week of gains, led by financial shares, which gained on a rise in U.S. bond yields after the U.S. Federal Reserve's policy statement on Wednesday.
The Nikkei slipped 0.3 percent to 20,296.45 while the Topix fell 0.3 percent to 1,664.61 with decliners outnumbering gainers by 2-1.
North Korean Foreign Minister Ri Yong Ho reportedly said his country could consider a hydrogen bomb test in the Pacific Ocean, raising anxieties in markets that had been getting used to the country's missile tests.
"The headline about a threatened North Korean nuclear test gave a the market a little shock," said Takuya Takahashi, a strategist at Daiwa Securities. "Though the market is not expecting immediate military action, it has triggered a profit-taking opportunity since the Nikkei had risen sharply recently."
Still, for the week, the Nikkei was up 1.9 percent after having hit a two-year high of 20,481.27 on the back of strong gains on Wall Street, a weakening yen, and hopes for a snap election.
During the week, bank shares rose 4.7 percent, their biggest weekly gains in nine months. Mitsubishi UFJ FG rose 6.2 percent on the week.
Investors also rotated to large cap shares from small caps, with the Topix core 30 gaining 2.1 percent while Topix small rose just 0.4 percent, reversing the outperfomance of small cap shares in the past few months.
Steel shares eased on Friday, making them the worst weekly performer, after the Japan Iron and Steel Federation said the country's crude steel output fell 2 percent to 8.73 million tonnes in August from a year earlier due to problems at some mills.
Steelmaker shares fell 2.3 percent on Friday, leaving their weekly performance at minus 2.1 percent.
JFE Holdings fell 4.7 percent and Nippon Steel & Sumitomo Metal dropped 1.9 percent.
Department store operator Matsuya Co stumbled 6.9 percent after the company cut its net profit outlook to 250 million yen ($2.2 million) from a previous forecast of 400 million yen for the March-August period.
$1 = 112.11 yen Editing by Richard Pullin and Eric Meijer