North American markets pared earlier losses Tuesday after the U.S. Federal Reserve acknowledged the pace of the U.S. economic recovery has slowed and said it would buy government debt on a small scale.

With a balance sheet worth $2.3 trillion US, the Fed's plan to use its muscle to continue buying securities is aimed at pushing interest rates low.

U.S. Federal Reserve chair Bernanke and his colleagues say the Fed will maintain its balance sheet at the current size of $2.3 trillion. (Alex Brandon/Associated Press file photo)

As expected, the central bank did not raise its benchmark federal funds rate, which has been held within the range of 0.0 to 0.25 per cent since December 2008.

"[There are indications] the pace of recovery in output and employment has slowed in recent months," the Federal Open Market Committee, the bank's policy-making group, said in a statement accompanying the decision.

The committee was referring to the period since it last met in June.

The change in tone of that statement contrasted with the Fed's description of the economy after its last meeting.

"The economic recovery is proceeding and … the labour market is improving gradually," it said then.

The latest statement also described the pace of recovery as "likely to be more modest in the near term than had been anticipated."

One member, Thomas M. Hoenig, the president of the Federal Reserve Bank of Kansas City, repeated his disagreement with the committee's pledge to keep rates low for an extended period, on the grounds it risked sparking inflation.

Fed might ease more

James Marple, senior economist at TD Economics, said the statement shows the bank has, for now, removed its promise to withdraw "monetary stimulus, [and moved] towards the possibility of easing further."

"This statement reflects our belief that in absence of another shock to demand, a very gradual removal of monetary stimulus remains the most likely scenario to play out over the next year and a half," he said.

In Toronto, the S&P/TSX composite index closed down 25.27 points, or 0.2 per cent, to 11,838.29.

In New York, the Dow Jones industrial average finished lower by 54.5 points, or 0.5 per cent, to 10,644.25, while the S&P 500 ended down 6.73 points, or 0.6 per cent, to 1,121.06. Both were down about one per cent before the announcement.

The Nasdaq composite index, which was down 1.8 per cent before the Fed statement, was off 28.52 points, or 1.2 per cent, at 2,277.17.

The Canadian dollar, which was earlier down by more than a cent, closed down 0.53 of a cent to 96.87 cents US.

The Federal Reserve has been under increasing pressure to act after Friday's release of the July jobs report. The report showed the unemployment rate stuck at 9.5 per cent and a third straight month of anemic hiring from the private sector.

With files from The Associated Press and the Canadian Press