* Dollar firm as U.S. bond yields rise
* U.S. consumer price data due at 1230 GMT
* Bank of England expected to keep rates on hold
* Graphic: World FX rates in 2018 tmsnrt.rs/2egbfVh (Adds context, updates prices)
By Tom Finn
LONDON, May 10 (Reuters) - The dollar's rally paused on Thursday as Treasury yields dipped and traders looked to U.S. consumer price data later in the day that could show an acceleration in inflation.
Ten-year Treasury yields, which have been pushing the greenback higher, slid back below the psychologically important 3 percent level to stop the dollar in its tracks after a three-week long rally.
The dollar index fell 0.2 percent against a basket of six major currencies at 92.88 after hitting a 4-1/2-month high of 93.42 on Wednesday.
A weakened dollar helped lift the euro above a 4-1/2-month low of $1.1823 on Wednesday. The euro had fallen in six of the last seven sessions, and on Thursday was last trading 0.3 percent on the day at $1.1890.
There has been little respite for investors this week with tensions between Israel and Iran flaring after U.S. President Donald Trump exited from an international nuclear accord with the Islamic Republic.
A three-week-long rally for the U.S. currency, which on Monday rose to its highest levels this year, reversing several months of weakness, has caused the unwinding of popular long bets on emerging market and G10 currencies.
In the aftermath of Trump's announcement on the Iran nuclear deal, oil continued to rally on Thursday although the gains being made were slowing.
"Markets are firmly focused on interest rates today," said Ulrich Leuchtmann, head of FX strategy at Commerzbank.
"Despite the U.S. exit from the Iran nuclear deal we're looking at a broadly risk-off environment...Interest rate differentials get to decide where the dollar goes next."
U.S. consumer price data due at 1230 GMT are expected to show that annual core CPI inflation rose to 2.2 percent in April, which would be the highest in more than a year, from 2.1 percent in March.
Analysts are divided over whether the rally for the U.S. currency will continue.
"It is our view that the broad-based rebound in the USD has further to run," said analysts at Rabobank.
But Societe Generale's European economist, Klaus Baader, said that the U.S. interest rate yield curve, an important indicator of dollar strength, was falling and that would make the greenback's bounce transient.
The British pound on Thursday fell after the Bank of England kept interest rates on hold and cut its forecasts for growth.
At 1150 GMT sterling traded flat at $1.3542, not far from $1.3485 touched on Tuesday, its lowest level in four months.
Markets were closed in countries including Switzerland, Sweden and Austria.
Discussions on forming a new government in Italy to end nine weeks of political stalemate are continuing and could remain a source of market volatility.
Italian government bond yields jumped to a seven-week high on an increased possibility that a government of anti-establishment parties comes into power in the euro zone's third largest economy.
The New Zealand dollar shed as much as 1.1 percent to a five-month low of $0.6916 after the Reserve Bank of New Zealand held interest rates steady and said the next move in rates could just as easily be a cut as a hike. (Editing by Mark Heinrich)