Forex

The euro firmed against the dollar on Wednesday, extending the previous day's gains on expectations the European Central Bank will bump up interest rates later this week.

The Australian dollar jumped after surprisingly strong retail sales data showed demand in the economy remained robust, despite surging oil and high interest rates. But activity was subdued in Asian trade as many investors retreated to the sidelines ahead of an ECB policy meeting on Thursday and the ever-important monthly US employment report due the same day.

The market is eyeing both events for possible hints about future monetary policy paths in the euro zone and the United States. The ECB is widely expected to lift interest rates by a quarter percentage point to 4.25 per cent this week.

"The market is pricing in a rate hike and hawkish comments supporting expectations for further monetary tightening beyond this month," said Tsutomu Soma, senior manager of foreign assets at Okasan Securities. "If comments are not hawkish enough, a wave of profit-taking is likely to hit the euro," he said.

ECB President Jean-Claude Trichet, who is due to hold a post-meeting news conference on Thursday, is also slated to speak on Wednesday at 0715 GMT. The euro edged up 0.1 per cent from late Tuesday US trade to $1.5804 helped by prospects that an ECB rate increase would boost the euro's yield appeal against the dollar.

Federal Reserve Bank of Atlanta President Dennis Lockhart said on Tuesday that the U.S. central bank must "react decisively" to stop inflation from pushing up wages, giving a clear hint about the possibility of a rate rise ahead.

But the market showed muted reaction as investors have begun to take the view that US economic weakness and worries about the financial sector will prevent the Fed from lifting rates - currently at 2 per cent - in the near future. The Bank of Japan is expected to leave rates at 0.5 percent for a while.

The dollar dipped 0.1 per cent to 106.00 yen But dollar selling was limited a day after Institute for Supply Management data showed US factory activity unexpectedly expanded in June after four straight months of contraction.

The euro steadied at 167.50 yen. The Aussie climbed 0.4 per cent to $0.9587 recovering from losses made on Tuesday, when the Reserve Bank of Australia kept rates at 7.25 per cent and signalled more rate hikes were unlikely in the near term.

The Aussie hit a 25-year high of $0.9668 on Monday. Investors will closely watch June US private sector jobs numbers and May factory orders due later in the day for what they might signal about Thursday's employment data and the pace of economic growth.