Dollar holds gains from upbeat data, eyes on ECB

TOKYO, Dec 7 (Reuters) The dollar held gains on Thursday scored in the previous session after a private-sector report showed solid U.S. job growth in November, boosting chances of a positive payrolls report later in the week.

Investors mostly stuck to the sidelines before the European Central Bank's policy meeting later in the day, looking for signs from President Jean-Claude Trichet that rates may keep rising in 2007 following a widely expected increase to 3.5 percent.

The dollar has clawed up from 20-month lows struck against the euro and a four-month trough against the yen as surprisingly strong U.S. data on employment and service sector growth has offset other figures showing manufacturing activity contracting.

The deciding factor for the dollar's near-term fate is likely to be what the ECB signals about the euro zone economy and rates, as well as the U.S. employment report for November on Friday.

A run of weak economic data has investors bracing for the Federal Reserve to cut interest rates from the current 5.25 percent as many as three times next year, even as Fed officials have indicated they are still worried about price pressures.

With U.S. rates expected to fall despite the ECB and other central banks appearing poised to keep tightening monetary policy, the dollar has suffered.

''We continue to believe that the amount of easing priced into the front-end of the U.S. yield curve remains overdone,'' currency strategists at Morgan Stanley said in a report to clients.

''In the event that the non-farm data on Friday support our thesis, the dollar should be able to regain some ground,'' especially against the Canadian dollar and the pound, they said.

The dollar barely budged from late New York trade at 115.25 yen up from a one-month low of 114.43 yen struck on Tuesday.

The euro was flat near 153.15 yen off the all-time high of 154.18 yen struck earlier in the week.

The single European currency was little changed near $1.3290 hovering below a 20-month peak of $1.3370.

Sterling was also flat near $1.9660 and down from the 14-year high of $1.9849 reached last week heading into a Bank of England policy meeting later in the session at which the central bank is seen keeping rates at 5.0 percent.

The yen relinquished some of its gains made this week after two Bank of Japan officials signalled the central bank is prepared to jack up interest rates in the near term, possibly as soon as its Dec. 18-19 policy meeting.

The BOJ is expected to lift rates to 0.5 percent -- which would be the highest in more than a decade -- from 0.25 percent by the end of the first quarter next year.

The Japanese currency has tumbled to an all-time low against the euro and an eight-year trough against the pound as investors have borrowed funds in the low-yielding yen and used them to buy higher-yielding currencies in carry trade.

Even with the expected rate increase, the BOJ is only seen bumping up rates to as high as 0.75 percent by the end of 2007.

Reuters AD VP0735