* Dollar index holds near three-year highs
* Greenback touches new 4-1/2-year high against yen
* Fed could step down bond-buying pace if economy improves
* Aussie approaches 1-year low after China factory activity drops
By Sophie Knight and Ian Chua
TOKYO/SYDNEY, May 23 (Reuters) - The dollar bounded up to a three-year high against a basket of major currencies in Asia on Thursday, squeezed higher after Treasury yields jumped on the prospect that the Federal Reserve might scale back its stimulus programme this year.
The dollar index raced as high as 84.498, a peak not seen since July 2010, before paring gains back to 84.348.
The greenback last bought 103.07 yen after setting a new 4-1/2-year high of 103.74 overnight. It had reached toward that level earlier in the session as the 10-year Japanese government bond yield rose to 1.000 percent, its highest in more than a year, after Treasury bonds beat a hasty retreat.
The moves came after Fed chief Ben Bernanke told Congress that the central bank could “in the next few meetings take a step down” in its bond purchases and warned that holding interest rates too low for too long has its risks.
But Bernanke said that any decision to reduce its buying would not mean the Fed would automatically push for a complete roll back of the stimulus, and set the bar quite high for any scale-back of the Fed’s bond purchases.
“Rather we would be looking beyond that to see how the economy evolves and we could either raise or lower our pace of purchases going forward,” he said.
Still, dollar bulls cheered, bidding the greenback up across the board. The euro was down 0.1 percent at $1.2844, not far from this month’s nadir of $1.2796, after striking as high as $1.2998 on Wednesday.
“From the beginning of May, the yen’s slide slowed down or stopped against a number of currencies, but the dollar’s broad strength means it continues to slide against USD,” said Minori Uchida, chief FX analyst at the Bank of Tokyo-Mitsubishi UFJ.
“Everyone said it would be hard for it to get over 95, 100, and 103, so I don’t think there’s much blocking it from 105...as long as the factors that have driven dollar strength don’t change, putting a floor under the yen will be difficult.”
The yen has dropped 6 percent against the dollar since the beginning of May, compared to 3.4 percent against the euro and 2.5 percent against sterling. Against the Aussie, the yen has actually gained 1.4 percent this month.
On Thursday, the Aussie slumped 0.6 percent to 99.36 yen, cracking the 100 yen level and its 50-day moving average at 100.60, after data showed factory activity in China shrank for the first time in seven months in May.
The flash HSBC Purchasing Manager’s Index (PMI) for China, Australia’s biggest export market, dropped to 49.6, slipping under the 50-point level demarcating expansion from contraction for the first time since October.
That left the Aussie languishing 0.6 percent down at $0.9634 and fast approaching its June 2012 trough of $0.9581. The currency has shed 7 percent this month as the U.S. dollar has surged across the board and the central bank surprised with a rate cut.