(Reuters) - The dollar fell for a second straight session against the euro on Wednesday on speculation the Federal Reserve will adopt further monetary stimulus to boost the world's largest economy, although any decision by the central bank to stand pat could spur a reversal. The euro also gained support from signs Greek parties may be close to forming a coalition government and expectations that euro zone policymakers could take quick steps to lower borrowing costs for Spain and Italy. Strategists said the Fed's policy decision due later on Wednesday, seen as likely to focus on action to lower long-term interest rates on U.S. Treasuries, would take center stage. In general, lower interest rates make a country's currency less attractive. "The focus right now has been on the U.S. central bank and the possibility that it may further stimulate the economy, so that has helped put worries about Europe off to the side," said Joe Manimbo, market analyst at Western Union Business Solutions in Washington. In early New York trading, the euro was up 0.1 percent at $1.2703, not far from a one-month high of $1.2748 hit on Monday after a narrow win for pro-bailout parties in the Greek election. It held much of the gains made against the dollar on Tuesday. "The weakness in the dollar is understandable but once that speculation is out of the way, and we know what the Fed is going to do, concerns about the euro zone will come back to the fore," said Simon Derrick, head of currency research at Bank of New York Mellon. "You wouldn't want to hold euros on a long-term basis." Signs the euro zone debt crisis is intensifying -- through weakening German economic indicators and elevated Spanish bond yields -- have prompted some players to bet central banks will step in with measures to safeguard global growth. Many investors doubt the Fed will go so far as to launch another round of quantitative easing, a policy that entails the expansion of its balance sheet via bond purchases. A more likely scenario is for the Fed to extend "Operation Twist", a program aimed at pushing down long-term borrowing costs by selling short-term securities to buy longer-term ones. The scheme is now due to end in June. Greg Moore, currency strategist, at TD Securities in Toronto said "Operation Twist" seems to be the "path of least resistance, the least market-disturbing, and...we do not think financial conditions have reached the threshold for full-on QE3 yet." He added, however, that there are still some out there calling for the Fed to expand their balance sheet and if the range of expectations is between "Operation Twist" and full-on QE3, then anything less than outright asset purchases might disappoint the market. The dollar was down 0.1 percent lower on a basket of currencies .DXY at 81.290, not far from a one-month low of 81.186 hit on Tuesday. PERIPHERAL DEBT PRESSURED The greenback's overall weakness saw sterling trade near a one-month high at $1.5778, despite minutes from the latest meeting of the rate-setting committee of the Bank of England showing policymakers are on the verge of another round of monetary easing in the UK. The pound was last at $1.5751, up 0.2 percent on the day. Bank of England's Mervyn King has flagged the downside risks to the economy from the euro zone turmoil and analysts said decisions to ring fence the UK from Europe's troubles could see sterling benefit from safe-haven flows in the near term. With Spain's 10-year government bond yields having hit euro-era highs this week, fanning speculation Madrid may need a full-blown bailout, market players expected the euro's gains to be limited. Given the level of Spanish long-term yields, Italy put forward a proposal at a G20 summit on Tuesday for the euro zone's rescue funds to start buying the debt of distressed European countries. The proposal is expected to be discussed at a meeting of European leaders on Friday but it would require a huge shift in Germany's stance for it to gather credence. The euro could see a bounce if the proposal is implemented although a sustained rise is unlikely, traders said. The euro was up 0.3 percent against the safe-haven yen, to 100.46 yen, while the dollar rose 0.2 percent against the Japanese currency to 79.04 yen. The Australian dollar rose to a six-week high of US$1.0211 as investors bet more Fed stimulus would boost growth-linked currencies. The Aussie last traded flat at US$1.0192. (Additional reporting by Anirban Nag in London Editing by W Simon)

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