* Sterling extends rally as deal likely on Irish border issue
* Graphic: World FX rates in 2017 tmsnrt.rs/2egbfVh
By Saikat Chatterjee
LONDON, Nov 30 (Reuters) - The dollar climbed on Thursday, moving further away from a two-month low hit earlier this week, as investors added bets the U.S. central bank will continue to unwind its record policy stimulus plan next year as growth prospects brighten.
Though the greenback is set for its biggest monthly drop since July, some of the world’s biggest investors expect inflation to rise in the U.S forcing policymakers to raise interest rates more than what markets are currently pricing in and providing a boost to the dollar.
Michael Hasenstab, an executive vice president at Franklin Templeton, said strong labour markets, rising wage pressures and a robust economy would put upward pressure on U.S. bond yields next year at a time when global central banks led by China are cutting their U.S. debt holdings.
“Markets could see sharp corrections to U.S. Treasury yields in upcoming quarters, similar to the magnitude and speed of adjustments that occurred during the fourth quarter of 2016,” he said in a note.
That could propel the dollar higher next year after it lost more than 10 percent against a trade-weighted basket of its rivals so far this year.
“Expectations that the new incoming Fed chief Powell will strike a hawkish stance is also helping the dollar this week,” said Michael Hewson, chief markets strategist at CMC Markets in London.
The dollar index, which gauges the greenback against a basket of six major rivals, rose 0.2 percent at 93.36 but was down 1.2 percent for November, its biggest drop in four months.
Some market strategists were sceptical about the outlook for the greenback.
“The upside for the dollar looks limited for now and euro/dollar is set to rise as the growth story in Europe gathers momentum,” said Morten Helt, a senior FX strategist at Danske Bank who expects the euro to strengthen to $1.25 against the dollar over the next 12 months.
The staggered progress of U.S. tax reform legislation also overshadowed the impact of upbeat economic data on the dollar to some extent.
Congressional Republicans scrambled on Wednesday to reformulate their tax bill to satisfy lawmakers worried about how much it would expand the federal deficit, as the measure moved toward a U.S. Senate floor vote later this week.
With euro zone business and consumer confidence hitting their highest since the turn of the millennium, traders will turn their attention to the release of European inflation data for November which will provide a glimpse of whether economic growth is feeding into price pressures.
The euro was flat at $1.1840, poised to gain 1.9 percent for the month though shy of a two-month peak of $1.1961 scaled on Monday.
Sterling was the star performer in early trading with the Times reporting that Britain is close to a deal over the Northern Ireland border issue, part of its negotiations with the European Union over Brexit.
That puts it on track for posting its best three-day rolling performance in nearly two months.
With the Times citing EU sources preparing to offer a two-year Brexit transition deal as early as January, traders bought the British currency, though gains were capped after a 2 percent jump from Tuesday’s lows.
Sterling was up 0.2 percent at $1.3440 in early trades and was just below a fresh two-month high of $1.3480 hit in the Asian trading session.
For Reuters Live Markets blog on European and UK stock markets see reuters://realtime/verb=Open/url=http://emea1.apps.cp.extranet.thomsonreuters.biz/cms/?pageId=livemarkets (Reporting by Saikat Chatterjee; Editing by Peter Graff)