Washington crafts fall-back debt plan as clock ticks

(Reuters) - With time running short, the White House said on Monday it was pursuing a last-ditch plan with Congress to raise the U.S. debt ceiling and avert a default that could plunge global financial markets into chaos.

While President Barack Obama insists he is focused on a comprehensive long-term deficit reduction deal, debt talks are stalled and there are just two weeks left until the United States runs out of money to pay its bills.

The vast ideological divide between Obama's Democrats and Republicans over tax increases and spending on popular social programs has driven a shift in focus in Washington to a backup plan that would give Obama responsibility, and potentially blame, for raising the $14.3 trillion limit on U.S. borrowing.

In the Senate, Democrats and Republicans are working on the fall-back plan proposed by Mitch McConnell, the top Republican in the chamber, that would authorize Obama to raise the debt ceiling in three stages through the November 2012 election.

"We must pursue a fall back or last ditch option if you will and conversations about that have been ongoing," White House spokesman Jay Carney said.

"We don't have the luxury anymore of pursuing one (option) only. We have to make sure there is a mechanism in place to be sure that no matter what happens the United States does not default," he said.

The stalemate on debt talks in Washington, along with debt problems in Europe, is unnerving financial markets worldwide amid fears of a descent into a global crisis. World stocks dipped and gold prices hit record highs above $1,600 an ounce as investors sought a safe haven.

Obama met House of Representatives Speaker John Boehner and his deputy Eric Cantor for private talks over the weekend but their offices said no progress was made toward a deal.

Instead, Republicans said they will push for a measure to cut and cap government spending and amend the U.S. Constitution to require a balanced budget even though Obama has already promised to veto it should Congress send it to his desk.

The symbolic vote on Tuesday gives conservative Republicans a chance to argue their position on the need for deep spending cuts. That could give Boehner the political cover to pursue a compromise that includes less dramatic cuts to spending that Republicans have so far sought.

The United States will default on its financial obligations by August 2 if Congress does not allow the U.S. Treasury to sell more debt by then. That would increase interest rates and could force the U.S. economy back into recession.

POLITICAL BLAME

The proposal by McConnell, who has said he wants to make Obama a one-term president, could shift any political blame for increasing the debt burden to the president ahead of an election in which U.S. deficits will be a key issue.

But many conservative Republicans in the House oppose McConnell's plan, saying it does not offer deep enough spending cuts. It could also backfire by giving Obama the opportunity to show voters leadership in crisis.

Carney said Obama and administration officials were working closely with both parties in the Senate to ensure the fail-safe plan could pass Congress.

The White House insists that talks are continuing with congressional leaders in pursuit of a long-term deficit reduction deal but there has been little evidence of discussions of anything beyond the "Plan B" alternatives.

Obama has set a Friday deadline for congressional leaders to agree on a budget deal. The White House says the July 22 deadline would give Congress enough leeway to write and pass legislation before August 2.

Credit rating agencies have signaled they may cut the top-notch AAA U.S. rating if the borrowing limit is not raised. Even if Congress increases the borrowing limit in time, without serious deficit reduction measures in place, the United States would still be under pressure, the agencies have said.

Fitch Ratings said on Monday if the debt ceiling was not raised before August 2 it would place the AAA rating on "watch negative," which means it could downgrade it within a three-to-six-month period. This echoed similar warnings last week from the other two big rating agencies, Moody's and S&P.

Worries about the impasse pushed Wall Street stocks lower, with the Standard & Poor's 500 index at its lowest in three weeks.

"There's a perfect storm happening on a global macroeconomic basis with no debt deal here and the ongoing issues in Europe, and the market is looking at all these things and is fairly anxious," said Oliver Pursche, president of Gary Goldberg Financial Services in Suffern, New York.

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