The yen gained broadly Tuesday as jitters about global credit conditions led investors to shed risky assets funded by borrowing in the Japanese currency.
Analysts said investors remained on edge about disorder in credit markets, brought on by losses in bonds backed by risky U.S. mortgage debt.
That has prompted investors to unwind carry trades that involve borrowing cheap yen to buy higher-yielding assets and to snap up U.S. Treasury debt, providing a safe-haven bid for the dollar against most major currencies save for the yen.
"People are willing to accept low yields in exchange for safety right now, and you see that in carry trades," said Kathy Lien, senior currency strategist at DailyFX.com.
By Tuesday, markets were pricing in at least two cuts to the Federal Reserve's benchmark federal funds rate by year end.
Economists have also pared back expectations of rate hikes by the European Central Bank and the Bank of England.
Late afternoon in New York, the dollar was down 0.4 percent at 114.40 yen, while the euro changed hands at 154.05 yen, down 0.5 percent on the day.
The high-yielding Australian dollar, a proxy for carry trade appetite, was the biggest loser against the yen, falling more than 1 percent from late Monday.
The dollar fared better against the British pound, though, rising 0.3 percent to $1.9820 per pound, while the euro fell 0.1 percent to $1.3463.
That's partly the result of U.S. investors repatriating funds into "cash or assets that are good as cash, such as Treasuries," Lien said.
The Fed has held its benchmark lending rate at 5.25 percent since June 2006, and Richmond Fed President Jeffrey Lacker said on Tuesday that recent market turmoil is not enough by itself to justify a cut.
The central bank cut the discount lending rate at which banks can borrow money directly from the Fed by 50 basis points late last week, but the move appears to have done little to calm market nerves.
Also on Tuesday, Treasury Secretary Henry Paulson said in a CNBC interview that liquidity would return to normal when investor reassess risk, but warned that the current credit problems would take time to play out.
Most market participants now think cuts in the federal funds target rate for overnight interbank loans are likely.
Goldman Sachs economist Ed McKelvey said in a research note that the Fed may cut by 50 basis points within days.
"We've maintained for weeks now that it's still too early to sound the 'all clear' signal," said Samarjit Shankar, director of global FX strategy at Bank of New York Mellon in Boston.
He, too, predicted a Fed rate cut "before its next (scheduled) meeting on Sept. 18."
Whether a cut does come will hinge on how healthy the global economy remains in the months ahead, said David Watt, senior currency strategist at RBC Capital Markets in Toronto.
"If U.S. consumers start closing the door and stop spending money -- anecdotal evidence to that effect" could tilt the Fed toward a cut, he said.