LONDON (Reuters) - The euro rose against the dollar on Wednesday as uncertainty over how the European Central Bank will react to a sharp drop in euro zone inflation left investors wary of pushing the currency any lower.
The euro has dropped sharply from levels above $1.38 before last week's data and traders said some investors were wary the ECB may choose not adopt a strongly dovish tone and were taking profit on the currency's fall.
The ECB meets on Thursday, with some seeing a risk that the central bank could announce an interest rate cut or at least lay the ground for such a move.
The euro was up 0.15 percent at $1.3498, above a low of $1.3442 hit on Monday and trendline chart support at $1.3454.
"Short-term it's hard to see the euro going far in any direction," said Carl Hammer, chief currency strategist at SEB in Stockholm. He expected the euro to stay within 1-2 cents either side of $1.35.
"An ECB rate cut would be negative for the euro because it would play into the hands of short-term speculators as the market is quite long of euros, but it would not really alter the long-term picture," he said, adding an interest rate cut would have limited effect because rates were already near zero.
Analysts at Barclays Capital said in a note they expected "a looser monetary stance to be adopted at the December meeting" and that the ECB would signal its intentions before that.
"We remain short euro via a put spread," they said.
Comments from U.S. Federal Reserve official John Williams, who said the central bank should wait for stronger evidence of growth momentum before trimming its bond-buying program, weighed on the dollar.
The dollar index, which measures the greenback's value against a basket of currencies, slipped 0.15 percent to 80.580 .DXY, down from a seven-week high of 80.930 set on Monday.
The index gave up some of Tuesday's gains made after a report showed U.S. service-sector activity picked up in October, suggesting the economy may not have suffered too badly from the partial government shutdown.
Gains in equity markets encouraged investors to buy riskier assets, helping the euro to rise 0.4 percent to 132.95 yen.
The growth-linked Australian and New Zealand dollars also rose, with the latter hitting a two-week high after strong New Zealand jobs data.
"It's a good set of numbers and certainly supportive of the market's expectations for the RBNZ to commence hiking rates in early 2014," said Tom Kennedy, economist at JPMorgan.
Additional reporting by Masayuki Kitano in Singapore, editing by Nigel Stephenson