The dollar plunged to a 33-month low against the yen Friday as markets continued to test the willingness of Japanese monetary authorities to intervene to stem the trend.
The euro meanwhile took advantage of the yen movement and scored its own big gains against the US dollar, trading at US$1.1342 in late-day deals against US$1.1256 in New York late on Thursday.
Against the yen, the US dollar fell to ¥113.95 from ¥115.27 on Thursday.
After a brief consolidation above the ¥115 level, the markets decided to sell dollars further ahead of a meeting in Dubai yesterday of finance ministers from the Group of Seven leading indusrialized countries.
Neil Mackinnon, a hedge fund economist, said the Bank of Japan had effectively given "the green light to yen bulls" by suggesting that intervention is not on the agenda ahead of the G7 meeting.
"We're in uncharted territory," said Mackinnon. "Until we get firmer indications of what the Bank of Japan is up to, speculative traders are willing to maintain the yen long positions."
Analysts are now increasingly predicting that dollar could fall to ¥110 imminently.
The fundamental picture in Japan has changed substantially over the last few months, with the Nikkei stock market average recovering on foreign inflows and the positive data.
"The Bank of Japan decided the yen flows are fundamental and that it's difficult to stand in the way," said Mackinnon.
Divyang Shah, currency strategist at IDEAglobal, said the Japanese monetary authorities could have defended ¥115 if they wanted.
The markets, he said, realized that if the Japanese did not intervene on Thursday, when the dollar was also under severe pressure, they were not likely to do so Friday given the proximity of the G7 meeting.
If Japanese authorities do not intervene on Monday, the dollar could quickly slide to ¥110 level, Shah added.
Tension over Japanese foreign exchange policy has mounted in the run-up to the meeting, with US Treasury Secretary John Snow urging Japan to alter its currency regime.
The fear in the euro zone is that the euro will end up bearing the brunt of the dollar's downward correction, which is seen as necessary in light of the record US current account deficit.
Earlier Bank of Japan governor Toshihiko Fukui said countries should not use tomorrow's G7 meeting to criticize each other's foreign exchange policies.
Asked about the soaring yen, Fukui said: "I am not in a position to comment on the yen's rise, but we will make a response calmly, while watching the market."
Japanese authorities fear that a rapidly rising yen will increase the price of the country's exports and thereby reduce their competitiveness in critical overseas markets.
Bear Stearns chief currency economist Steve Barrow warned that the US might have misjudged the situation.
"The US authorities might be aiming for a soft landing for the dollar against Asia but the ploy could easily backfire and the dollar could be at risk of crash-landing more generally," he said.
"This would be no good for US capital markets in the long run, especially for US Treasuries," Barrow added.
The euro was changing hands at US$1.1342 from US$1.1256 late on Thursday in New York, ¥129.25 (¥129.74), £0.6949 (£0.6957) and 1.5553 Swiss francs from Sf1.5587.
The dollar was being quoted at ¥113.95 (¥115.27) and 1.3713 Swiss francs (Sf1.3848).