WRAPUP 4-U.S. Democrats question Obama's tax deal

* Passage in Congress seen likely despite Democratic anger

* Investors dump U.S. Treasuries

* Build America Bonds, other details in flux
(Adds Pelosi, other House Democrats)

By Kim Dixon and Richard Cowan

WASHINGTON, Dec 7 (Reuters) - President Barack Obama's plan
to extend tax cuts for all Americans ran into trouble on
Tuesday when his fellow Democrats questioned it and investors
dumped U.S. Treasury bonds on fear that low taxes will dig a
deeper hole in the budget deficit.

While analysts believe Congress will probably approve the
deal, Obama faced a rift with many in his party who think he
was too quick to compromise with Republicans on taxes.

Democrats had sought tax reductions only for the lower and
middle class and their support for the deal remained unclear
before they hand over control of the House of Representatives
to Republicans next month.

Obama said the deal would give a much-needed boost to the
economy, which is still struggling to recover from the deepest
recession in 70 years.

"This package will help strengthen the recovery. That I'm
confident about," he told a news conference.

Economists reckon the compromise tax plan should eliminate
uncertainty on tax policy, help reduce unemployment and raise
economic growth in 2011. [ID:nN07277043]

The deal calls for a 13-month extension of unemployment
benefits, which could placate Democrats. But Obama also
conceded to Republican demands on the estate tax by proposing a
35 percent tax with a $5 million individual exemption level.

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Full coverage of tax and deficit debates [ID:nN06200548]

Reuters Breakingviews column [ID:nN07158253]

Graphic: Tax proposal: record deficit, more growth

r.reuters.com/fuc98q

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The Obama plan would cost $501 billion in lost tax
revenues, according to the non-partisan Congressional Budget
Office, at a time when voters are increasingly concerned about
budget deficits that have approached 10 percent of economic
output in recent years. A Senate Republican aide estimated the
tax cuts will cost $700 billion.

House Speaker Nancy Pelosi emerged from an evening meeting
with fellow Democrats telling reporters that there was "unease"
in her party with aspects of the tax-cut plan.

That was evident from Representative Sander Levin, who
chairs the tax-writing House Ways and Means Committee. "We
expressed very serious concerns" about estate tax breaks in the
plan that were won by Republicans.

BOND MARKET FEARS

Initial relief waned fast in financial markets, triggering
a steep sell-off in U.S. Treasuries on spreading concern that
the tax deal worsens the U.S. deficit and will stoke
inflation.

Demand was weak at the three-year note auction, and the
10-year Treasury note suffered its worst sell-off since June
2009. Its yield jumped to 3.13 percent, up from 2.93 percent on
Monday, which will ricochet through the economy by pushing up
mortgage rates.

U.S. and European stocks had earlier risen on the deal.

Moody's Investors Service said U.S. finances could suffer
in the long run. [ID:nN07282425]

"This reduces revenue on top of extending jobless benefits,
which is bad for deficits. In the short run this is good news,
but two to three years down the road foreign buyers of U.S.
Treasuries may start to balk," said David Carter, chief
investment officer at Lenox Advisors in New York.

Taxes would go up for almost all Americans if no extension
is approved. Analysts predicted the tax-cut measure would
ultimately become law as enough Republicans would back the deal
to offset the Democrats who oppose it.

Obama leveled some of his toughest criticism to date at the
left wing of the Democratic Party, saying his critics were
taking a "sanctimonious" position.

His voice rose and he sounded exasperated when he told a
news conference that if he had refused to compromise with the
Republicans then, "People will have the satisfaction of having
a purist position and no victories for the American people."

House Speaker Nancy Pelosi said Democrats would "continue
discussions" on the deal in coming days. Representative Steny
Hoyer, the No. 2 House Democrat, said he had not yet decided
whether to back it. No date has been set for a vote.

The White House said the deal would achieve Democrats'
priority by preventing a tax increase for working families that
would average $3,000. It would also help those struggling in
the wake of the worst recession since the 1930s by extending
unemployment benefits and other tax cuts focused on those with
more modest incomes, it said.

Economists say the plan could raise economic growth by 0.5
percent to 1.0 percent next year and lower unemployment.

"In all likelihood, the recovery would have made it through
next year without backtracking into recession, but this deal
improves those odds significantly," said Mark Zandi, chief
economist at Moody's Analytics.

The deal would create 2.2 million jobs, according to the
liberal Center For American Progress, giving a much-needed
boost at a time when Congress has been unable to pass
spending-based fiscal stimulus measures.

Federal Reserve Chairman Ben Bernanke has called for
additional fiscal measures to supplement the central bank's
$600 billion effort to spur demand by buying government bonds.

But many Democrats argued that Obama had given Republicans
their top priority -- extending the tax breaks for the richest
2 percent of U.S. households -- without getting enough in
return.

Some said Obama should have fought harder to set the tone
for future negotiations with Republicans.

"By giving in this early I think we've just emboldened
them," said Representative Raul Grijalva, a leader of the
Progressive Caucus who said he would vote against the deal.

A Republican aide warned that his party would block the
inclusion of Build America bonds, a taxable bond program
popular with states, cities, and other municipal issuers.
[ID:nN07276802]

Tax breaks for ethanol, clean technology, and employers who
hire unemployed workers were also in the mix.
(Writing by Andy Sullivan; Additional reporting by Donna
Smith, David Morgan, Jeff Mason, Lucia Mutikani, Thomas
Ferraro, Walter Brandimarte and Ryan Vlastelica; Editing by
Clive McKeef and Christopher Wilson)