* Draghi quoted saying ECB can buy debt of up to 3-year maturity * US manufacturing sector contracts for 3rd month in August * Moody's changes outlook on EU to negative By Chris Reese NEW YORK, Sept 4 (Reuters) - U.S. Treasury prices were steady to slightly lower on Tuesday as some optimism over potential bond-buying from the European Central Bank was offset by data showing a third month of contraction in the U.S. manufacturing sector last month. Treasuries began the day trading lower in price after ECB President Mario Draghi was quoted as telling lawmakers that ECB purchases of debt with a maturity of up to three years would not breach the European Union's taboo of directly financing economies. Price losses were pared however following data from the Institute for Supply Management that showed the U.S. manufacturing sector shrank at its sharpest clip in more than three years in August. "It has become increasingly clear that the manufacturing sector is losing momentum. This soft (ISM) report leading into Friday's payrolls will only solidify additional action from the Fed if we see another soft jobs report," said Tom Porcelli, chief U.S. economist at RBC Capital Markets in New York. Treasuries rallied on Friday after U.S. Federal Reserve Chairman Ben Bernanke buoyed expectations of a new round of bond-buying stimulus for the country's struggling economy. Economic data this week was expected to be key to whether those expectations gain traction and provide momentum for a fresh Treasury debt safe-haven rally. The ISM manufacturing survey for August bolstered Treasuries safe-haven appeal, but the main focus will fall on Friday's non-farm payrolls report after Bernanke explicitly expressed concerns over the labor market on Friday. Benchmark 10-year Treasury notes on Tuesday were trading 3/32 lower in price to yield 1.56 percent, up from 1.55 percent late Friday, while 30-year bonds were 3/32 lower with the yield little changed from Friday at 2.67 percent. While Draghi's comments gave investors some optimism over the outlook for Europe's credit crisis, the overall picture for the euro zone remained murky. Moody's Investors Service changed its outlook on the Aaa rating of the European Union to negative, warning it might downgrade the bloc if it decides to cut the ratings on the EU's four biggest budget backers: Germany, France, the UK and the Netherlands. The move will add to pressure on the European Central Bank to provide details of a new debt-buying program to help deeply indebted euro zone states at its policy meeting on Thursday.

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