Dec. 16 (Bloomberg) -- The dollar weakened to $1.41 per euro for the first time in more than two months as the Federal Reserve cut the target lending rate to a range of zero to 0.25 percent, making the greenback the lowest-yielding currency among industrialized nations.

The U.S. dollar posted its biggest five-day drop against the euro since the 15-nation currency’s 1999 debut as the central bank said in its statement it will do whatever’s needed to ease the recession. European Central Bank President Jean- Claude Trichet signaled yesterday it may pause in reducing borrowing costs at its meeting in January.

“Sell dollars,” said Scott Ainsbury, a portfolio manager who helps manage $14.6 billion in currencies at New York-based hedge fund FX Concepts Inc. “We have a zero interest-rate policy. It didn’t do very well for Japan over the years, did it?”

The dollar dropped against all of the 16 major currencies tracked by Bloomberg, falling 2.6 percent to $1.4049 per euro at 4:35 p.m. in New York, from $1.3688 yesterday. It reached $1.4147, the weakest level since Oct. 1. The dollar depreciated 1.8 percent to 89.03 yen from 90.65. It touched 88.53 on Dec. 12, the lowest level since August 1995. The euro gained 0.9 percent to 125.17 yen from 124.09.

The Fed has already announced it will purchase agency debt and mortgage-backed securities and said in its statement that it’s ready to expand the program. The Fed said it continues to weigh the potential benefits of buying longer-term Treasuries.

‘Second Arrow’

Nine rate cuts in the past 14 months and $1.4 trillion in emergency lending have failed to reverse the longest recession in a quarter-century. Chairman Ben S. Bernanke said in a Dec. 1 speech that the Fed will need to focus on “the second arrow in the central bank’s quiver -- the provision of liquidity.”

The ICE’s Dollar Index, which tracks the greenback against the euro, the yen, the pound, the Canadian dollar, the Swiss franc and Sweden’s krona, fell 1.9 percent to 80.683. It has decreased 6 percent over the past five days, the biggest such decline since September 1985.

“The kitchen-sink approach means the dollar is going to weaken,” said Todd Elmer, currency strategist at Citigroup Global Markets in New York. “It further shows the Fed’s commitment to mitigating the crisis.”

The dollar decreased 12 percent from a 2 1/2-year high of $1.2330 per euro on Oct. 28 on reduced demand for short-term funding in the greenback. It dropped 8 percent versus the euro over the past five days.

Dropping Libor

The cost of borrowing in dollars for three months in London declined today on speculation policy makers will keep pumping cash into money markets to spur bank lending. The London interbank offered rate, or Libor, that banks say they charge each other for such loans dropped 0.02 percentage point to 1.85 percent, the lowest level since September 2004, British Bankers’ Association data showed.

New Zealand’s dollar was the biggest gainer versus the greenback among the major currencies, climbing 4.3 percent to 57.85 U.S. cents. The Reserve Bank’s official cash rate is 5 percent. The Australian dollar appreciated 4.2 percent to 69.42 U.S. cents.

Today’s reduction by the central bank pushed the fed funds target below the Bank of Japan’s 0.3 percent rate. Japanese policy makers struggled in the 1990s to revive growth as the combination of deflation and recessions stranded the nation in the Lost Decade.

Fed Funds Futures

Before the Fed’s decision, futures on the Chicago Board of Trade showed a 54 percent chance the Fed would trim its 1 percent target rate to 0.25 percent, compared with no likelihood a month ago. The balance of bets was for a reduction of a half- percentage point.

The ECB reduced its benchmark rate three times since the end of September, lowering it to 2.5 percent from 4.25 percent to contain the fallout from the global financial crisis. The Bank of England cut its key rate to 2 percent from 5 percent during the same period.

“Do we have a feeling there is a limit to the decrease in rates? At this stage certainly yes,” Trichet told journalists in Frankfurt late yesterday. Asked whether the bank will refrain from a further rate reduction next month, he said policy makers want to “concentrate at this stage on getting what we already decided to be really operational.”

The U.S. currency fell 20 percent against the yen this year, the most since 1987, as $986 billion of credit-market losses sparked a seizure in money markets and threw the U.S. economy into a recession.

The Group of Seven, which comprises the U.S., Japan, Germany, the U.K., France, Italy and Canada, propped up the dollar in 1995, when it sank to a post-World War II low of 79.75 yen. Central banks intervene when they buy or sell currencies to influence exchange rates.

To contact the reporters on this story: Michael J. Moore in New York at mmoore55@bloomberg.net; Jamie McGee in New York at jmcgee8@bloomberg.net

Last Updated: December 16, 2008 16:42 EST