Dollar drops in thin trade; US growth prospects cap losses

The dollar fell against the euro on Monday in illiquid trade, but optimism about the U.S. economy despite the Federal Reserve starting to withdraw some of its stimulus capped the currency's losses.

Major currencies were in a holding pattern due to a holiday in Japan, while for most of Europe it was the last full trading session before a Christmas break. That left many investors and speculators to square positions and trim long dollar positions before year-end.

(Read more: Goldman to investors: Stay out of emerging markets)

In early afternoon trade, the was flat at 104.08 , not far from a five-year peak of 104.63 yen touched on Friday.

Sentiment globally was underpinned by Friday's upbeat U.S. GDP data and the Federal Reserve's decision last week to start scaling back its bond-buying stimulus.

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The euro traded 0.2 percent higher at $1.3698, above a two-week trough of $1.3623 on Friday. Against the yen, the common currency was 0.2 percent higher at 142.58, not far from a five-year high of 142.89 reached last week.

Part of the reason why the dollar remains sought-after is that short-dated Treasury yields are still moving higher, driven by expectations the Federal Reserve will continue to trim its bond-buying program in coming months.

The 10-year Treasury yield rose and if forthcoming activity out of the United States continues to outperform.

(Read more: Why 2014 will be a 'year of economic growth': Trichet)