* Euro rises for third day
* Italy close to forming govt, announcing PM
* Australian dollar up on renewed risk appetite
* Graphic: World FX rates in 2018 tmsnrt.rs/2egbfVh
By Tom Finn
LONDON, May 14 (Reuters) - The euro headed for a third successive day of gains on Monday as a weak dollar helped the single currency recoup losses, as investors kept a wary eye on political events in Italy.
Italy's anti-establishment 5-Star Movement and the far-right League, both hostile to EU budget rules, spent the weekend in talks to forge a common policy programme. The parties were adversaries as recently as March but now look likely to form Italy's next government.
The euro was 0.3 percent higher at $1.1972, having fallen last week to $1.1823, its weakest since Dec. 22.
"Italian politics aren't a major moving factor in the euro zone yet. It's not an existential threat and isn't driving a lot of positioning or putting the euro's bounce at risk," said Manuel Oliveri, an FX strategist at Credit Agricole in London.
"I expect inflation will rebound in the euro zone and that will keep the European Central Bank's stimulus unwinding on track."
The dollar retreated further from a 2018 peak hit last week as traders booked gains on its recent run-up, spurred by the widening interest rate gaps in favour of the United States.
The dollar index against a basket of six major currencies was down 0.1 percent at 92.515.
Bank of America Merrill Lynch strategists said the main catalyst for the dollar's surge was the lack of improvement in euro zone economic data, prompting investors to unwind record short-dollar bets, particularly against emerging market currencies.
A loss of economic momentum in Europe has made policymakers in Europe and Britain more cautious about ending financial crisis-era policies.
On Friday, ECB President Mario Draghi said the euro zone needed a new "fiscal instrument" to help weaker member nations if they were being overly penalized by investors during a debt crisis.
Traders pushed out expectations of a rate hike in Britain to end-2018, and the European Central Bank boosting interest rates to the second half of 2019.
Analysts at ACLS said they expected a reduction in trade tensions between the U.S. and China this week to fuel risk-on sentiment that would be positive for the Australian dollar and negative for the yen, considered a safe-haven currency.
The Australian dollar was 0.2 percent higher at $0.7558 after rallying back from an 11-month low of $0.7413 plumbed on Wednesday.
Investors this week are focused on speeches by Fed and ECB officials, as well as German GDP data due out on Tuesday and expected to show some slowdown in growth. (Additional reporting by Shinichi Saoshiro in TOKYO, editing by John Stonestreet)