Obama: "Massive blow" to economy if tax cuts lapse

U.S. President Barack Obama talks about extending and expanding the payroll tax cut during his visit to Scranton, Pennsylvania November 30, 2011.

SCRANTON, Pennsylvania (Reuters) - President Barack Obama warned on Wednesday that the U.S. economy would suffer a "massive blow" if Congress fails to extend expiring payroll tax cuts, saying the country was not fully recovered from the recession.

Obama sought to turn up the heat on congressional Republicans at a campaign-style rally at a high school in Scranton, Pennsylvania, a battleground state in the 2012 presidential election in which he is seeking a second term.

Republicans, who had been lukewarm to a proposed one-year payroll tax break extension that Obama wants to help bolster the economy, threw their support behind the idea on Tuesday.

But the two sides are at odds over how to pay for it, signaling tough negotiations ahead.

Obama made clear that he and fellow Democrats still want to finance the payroll tax proposal by raising taxes on wealthier Americans, and challenged Republicans to make a choice in a congressional vote he said could come as early as Friday.

"Are you going to cut taxes for middle class and those who are trying to get into the middle class or are you going to protect massive tax breaks for millionaires and billionaires?" he asked, striking a populist tone on a visit to a blue-collar town in a state considered crucial to his re-election chances.

Republicans, who are seeking to blunt Democrats' charges of favoring the rich over the middle class ahead of next year's vote, rolled out their own plan to cover the cost of extending the payroll tax cuts.

Congressional aides said the Republican plan mainly would pay for the tax cut extension by reducing the number of federal workers and extending a pay freeze for those workers for three more years. It also would achieve smaller savings by tightening eligibility requirements on unemployment and food stamp benefits, they said.

"WORST POSSIBLE TIME"

Obama said if Congress doesn't extend the payroll tax cuts, middle-class taxes will go up "at the worst possible time."

"It would be tough for you," he said. "It would also be a massive blow to the economy because we're not fully out of the recession yet." His re-election is expected to hinge on whether he can spur the economy and curb 9 percent unemployment.

Without congressional action by December 31, the payroll tax that workers pay would revert to 6.2 percent, up from the current, temporary 4.2 percent tax. On average, it would cost American families about $1,000.

Some economists have estimated that allowing the payroll tax cut to die would shave anywhere from 0.75 percentage point to 1.5 percentage points from economic growth.

Congressional approval could help avert an end-of-year battle following months of bitter partisan disputes that have fed public perceptions of political dysfunction in Washington.

Senate Democrats will press as early as this week for a bill that would cut the payroll tax even further, to 3.1 percent and also drop it to that level for employers. It would make up for the lost revenue with a new 3.25 percent tax on income over $1 million dollars a year, an idea Republicans strongly oppose.

Republicans had previously opposed continuing the payroll tax cut because they said it was unclear it had actually stimulated job creation.

Obama said Republicans would have a chance to "redeem themselves" in the coming vote on the payroll tax cut extension after having blocked his overall $447 billion jobs package in September, calling it filled with wasteful spending.

He chose Pennsylvania, a swing state he won handily in the 2008 election, to make his case. But he faces an uphill fight to keep Pennsylvania in his column in 2012.

Recent polls have shown Obama neck-and-neck in a hypothetical race against former Massachusetts governor Mitt Romney, a leading Republican presidential contender.

(Additional reporting by Thomas Ferraro; writing by Matt Spetalnick and Laura MacInnis; editing by Anthony Boadle)