Fed keeps monetary policy on hold, disappointing markets

— -- The Federal Reserve said Wednesday that the economy has weakened but it announced no new steps to stimulate growth.

In its statement after a two-day meeting, the Fed's policy-making Open Market Committee did set the stage for more purchases of Treasury or mortgage securities to lower long-term interest rates as early as next month's meeting.

It said it "will provide additional accommodation as needed to promote a stronger economic recovery" and job growth.

"To markets, this is signaling that if there is any deterioration in economic conditions between now and September, the Fed will do more," said TD Economics economist Chris Jones.

Given concerns about how the economy could be affected by Europe's fiscal problems and the mix of U.S. budget cuts and tax hikes scheduled after December, "it is still more likely than not that the Fed will act before year end," Jones said in a note to clients.

The Fed's mid-afternoon announcement brought little market reaction. Stock indexes fell sharply after the statement was released at 2:15 p.m. ET, but then moved higher. Major indexes finished down slightly.

The Federal Open Market Committee was more downbeat in assessing the economy than after its previous June meeting. It said "economic activity decelerated somewhat over the first half of the year." In June, it said "the economy has been expanding moderately" and job growth "has slowed."

Yet policymakers repeated what they said in June, that they expect "economic growth to remain moderate over coming quarters and then to pick up very gradually." The Fed said in June that it expects the economy to grow 1.9% to 2.4% this year, down about a half a percentage point from its April forecast. But many economists expect an expansion well under 2%, far less than the 3% or so needed to lower unemployment.

Many economists expect Friday's government report on job growth in July could help determine whether the Fed will launch a new round of stimulus. Several Fed policymakers recently have suggested that they're inclined to support more bond purchases if the torpid economy doesn't pick up.

Employment growth has slowed from average monthly gains of 225,000 in the first quarter to 75,000 in the second quarter.

The ADP survey of private employers, released Wednesday, showed that businesses added 163,000 jobs in July, soundly beating expectations of 120,000. But the ADP report lately has overshot the official Labor Department report, which economists expect will show that private and public-sector employers added just 100,000 jobs.

Meanwhile, the Institute for Supply Management said Wednesday that manufacturing activity slowed for a second straight month in July.

If the recovery remains weak, the Fed next month will likely announce it will buy about $500 billion in government bonds, mostly mortgage-backed securities, RDQ Economics said in a research note. Economists say mortgage bond purchases more dramatically lower mortgage rates than Treasury purchases, which broadly push down rates for home, auto, student loan, corporate and other purchases.

Policymakers may take aim at the housing market, which despite recent signs of improvement, remains weak and is holding back the recovery.