* U.S. employment data mixed
* Offshore yuan on pace for largest 2-day rise since launch
* Dollar falls vs yen, euro, Swiss franc (Recasts opening, adds data, quote)
By Dion Rabouin
NEW YORK, Jan 5 (Reuters) - The dollar fell to a three-week low against a basket of major currencies on Thursday after U.S. inflation and unemployment data failed to reverse a downtrend that followed some of the biggest gains on record for China's yuan.
A rise in overnight borrowing costs in Hong Kong and growth in China's services sector to a 17-month high last month helped put the offshore yuan on pace for the biggest two-day rise since its inception in 2010.
That in turn triggered profit-taking on the dollar, which fell to its lowest since Dec. 14 as more investors piled on.
The dollar index, a measure of the greenback against six world currencies, dropped 1.3 percent to 101.370. The index is on pace for its worst one-day percentage loss since Sept. 6.
The dollar's steep dive was the result of investors having to reduce or reverse bets on the greenback as momentum shifted in the market, said Deutsche Bank's Global Head of FX Strategy Alan Ruskin.
"If you're looking for any catalyst it was China ... and it turned into a cascade and into a squeeze in a lot of the favored trades that we started the year with," he said.
The dollar was last down 1.65 percent against the yen and more than 1.1 percent lower versus the euro and Swiss franc.
It was the greenback's lowest against the yen since Dec. 14 and lowest against the euro and Swiss franc since Dec. 30.
Investors shook off promising data on the U.S. economy, including the Institute for Supply Management's non-manufacturing purchasing managers index, which showed new orders and prices paid at their highest levels since August 2015 and August 2014, respectively.
U.S. jobless claims fell to a 43-year low last week, but that data was countered by a soft report from payrolls processor ADP showing employment gains were muted in December.
That put the dollar back on its lower trajectory after a brief stall following the release of the jobless claims figure as investors refocused attention on China's strong yuan.
"All we're seeing is a continuation of the overnight move, which is dollar weakness," said Chapdelaine Foreign Exchange Managing Director Douglas Borthwick. "Obviously that's also helped by the significant intervention by the Chinese overnight."
Borthwick also said sentiment was growing among investors that the dollar's strength has peaked as many return to markets after the Christmas and New Year holidays.
Reporting by Dion Rabouin; Editing by Lisa Von Ahn and Andrea Ricci