(Adds Morgan Stanley forecast, updates prices)
* Dollar recovers after fall to 7-month low
* Sterling falls sharply at start of Asian day, before recovering
* Eyes on ECB meeting, UK election this week
* Graphic: World FX rates in 2017 tmsnrt.rs/2egbfVh
By Patrick Graham
LONDON, June 5 (Reuters) - The dollar recovered from last week’s seven-month lows on Monday, gaining against the euro and yen, but still looking exposed to any renewed optimism from a European Central Bank policy meeting this week.
Sterling, on a rollercoaster ride driven by diverging opinion polls ahead of Thursday’s national election, also recovered after a van and knife attack on pedestrians in central London on Saturday drove a brief drop in early Asian trade.
Dealers said the week should be dominated by the UK election and the ECB meeting, eyed for signs of the bank turning towards tighter policy later this year.
Coming at a time when political risk in Europe has eased, U.S. economic data has worsened and expectations for more rises in Federal Reserve rates have fallen, that prospect pushed the euro to a seven-month high on Friday.
“Overall we think the risks are skewed towards a more cautious stance (from the ECB) than the market is expecting,” said Barclays strategist Nick Sgouropoulos, pointing to more downbeat messages sent by other major central banks in recent weeks.
“It would be a very big message for the ECB to go ahead of everybody else. They want to be very cautious about how they change the wording of their statement. We don’t think the euro goes further (up) from here.”
The euro fell just over 0.3 percent to $1.1244, compared to Friday’s high of $1.1285. The dollar was also 0.15 percent stronger at 110.57 yen.
Other moves among the G10 group of major developed world currencies, kept the dollar index just 0.2 percent above Friday’s close at 96.756.
The pound’s trade-weighted value has fallen by 3 percent in just under 4 weeks as Prime Minister Theresa May’s bid for a landslide electoral victory that would strengthen her hand in talks on leaving the European Union ran into trouble.
It was not immediately clear how the events on Saturday would impact the election, though the issue of security has been thrust to the forefront of the campaign after the London Bridge and Manchester attacks.
Polls have given widely varying results, but some indicate the election could be close, possibly throwing Britain into political deadlock just days before formal Brexit talks with the European Union are due to begin on June 19.
Helped by a morning poll backing May to win the popular vote by 11 percentage points, the pound gained 0.1 percent to $1.2907 and almost half a percent to 87.12 pence per euro by 1130 GMT.
U.S. bank Morgan Stanley slashed one of the market’s more bullish long-term forecasts for sterling in a weekend note, cutting its prediction for the end of next year from $1.45 to $1.23.
“The bull case (for sterling) has become less convincing, with the economy now showing signs of weakness,” the bank’s analysts said.
“For sterling to do better, we need to see Brexit negotiations turning constructive, allowing markets to assume the British economy avoiding a cliff-edge Brexit.”
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 (Editing by Toby Chopra)