LONDON: Sterling rallied on Thursday, bringing its two-day gains to more than 1.3% as traders prepared to see whether the Bank of England would stick to its message of interest rate hikes even after the Federal Reserve signalled it could soon ease policy.

The Fed joined the European Central Bank, and was followed by the Bank of Japan, in warning about mounting global risks and the need for additional stimulus to counter any economic slowdown and a hit from growing trade tensions.

The BoE has repeatedly said that interest rates will need to rise faster than the market currently expects, although it has made any rate hike contingent on Britain having a smooth exit from the European Union.

Markets, however, are not pricing for a BoE hike until well until 2020. All eyes are on whether the BoE will repeat its earlier message when it gives its policy decision at 1100 GMT.

Many analysts are doubtful.

"The BoE will struggle to strike a hawkish tone at today's MPC meeting given the dovish shift in many trading partners. But the reality is we are now entering a softer USD and softer EUR environment, taking some pressure off of GBP," ING analysts said in a note.

British retail sales in May fell 0.5% month-on-month, in line with a forecast by economists polled by Reuters. While the data added to signs of an economy headed for a weak second quarter, the pound did not give up its earlier gains.

The UK economy has shown signs of weakness in the face of prolonged uncertainty over Britain's exit from the EU but economic data have tended to move the pound only marginally as traders focus on Brexit.

Later on Thursday, the field of candidates hoping to replace Prime Minister Theresa May and take on Britain's so far ill-fated negotiations to leave the EU will be whittled down to two by Conservative Party lawmakers.

Then grassroots members will decide who will become party leader, and next prime minister, by the end of July with Brexit campaigner Boris Johnson the favourite to win.

The pound rose 0.6% to as high as $1.2726 in early London trading, largely on the back of a broad dollar selloff. Against the euro sterling was little changed at 88.785 pence per euro. - Reuters