The Bank of Japan's decision to leave monetary policy unchanged pushed the yen up on Friday, while U.S. consumer spending data showing the smallest gain in eight months weighed on the dollar.
The BoJ action was unexpected, particularly in the wake of dovish signals from the European Central Bank and a Chinese rate cut last week. But Japan's central bank was confident a tight job market would lift wages and consumption. That helped the yen post its first gain against the dollar in three days.
related investing news
In the United States, a report showing benign inflation and a small rise in personal consumption drove the dollar lower against a currency basket for a second straight session.
"The focus has shifted back to relative policy again," said Ian Gordon, FX strategist at Bank of America Merrill Lynch in New York.
"I think you're seeing some paring back, but the market is just looking for signs of whether the Fed is going to increase rates this year. This morning's data didn't change that very much."
The dollar index, which measures the greenback against six major currencies, fell 0.39 percent 96.90. On the month though, the dollar was up 0.4 percent, for its second straight monthly gain.
The greenback fell as low as 120.28 after the BoJ announcement, before reversing course radically on a report by the Nikkei newspaper that Japan's government is considering adding a 3 trillion yen ($24.77 billion) extra budget in preparation for the trans-Pacific trade pact.
The dollar last traded down 0.22 percent at 120.68 yen.
At a news conference following the BoJ decision, Governor Haruhiko Kuroda said inflation would bounce back after the effects of a plunge in oil dissipate. A two-year inflation target of 2 percent was still reasonable, he said.
The euro broke the $1.10 mark against the dollar, rising as high as $1.1075, supported by an unexpected improvement in euro zone economic sentiment and signs of faster-than-expected inflation in Germany. It was last at $1.1006, up 0.15 percent.
That bump continued a trend of the past two days, which BofA's Gordon said should be short-lived.
"We generally expect a shift back to policy divergence to be dollar-positive, just given that we do expect the Fed to hike rates this year," he said.
"Ultimately we do expect the BOJ to do more (easing) as well, so that ultimate divergence will be dollar-positive even if we don't see it in today's price action."