WRAPUP 1-Obama faces new obstacles in high-stakes debt talks

* Taxes, entitlement cuts still a sticking point
* Talks scheduled for Sunday at White House
By Matt Spetalnick
WASHINGTON, July 10 (Reuters) - President Barack Obama will seek to salvage high-stakes debt talks on Sunday after Republicans pulled back from a joint effort to craft a broad $4 trillion deficit-reduction deal as part of a plan to avoid a U.S. government default.
On the eve of bipartisan negotiations hosted by Obama, House of Representatives Speaker John Boehner -- facing stiff opposition from fellow Republicans over the prospects of higher taxes as part of a large-scale deal -- told the Democratic president he would only pursue a smaller, $2 trillion package.
Boehner's decision threatened to thrust Sunday's White House meeting between Obama and congressional leaders into disarray as the clock ticked down on the Aug. 2 deadline for raising the national debt ceiling.
Failure to act could mean the first-ever default on the nation's financial obligations, which the White House and private economists warn could push the United States back into recession and trigger global financial chaos.
Aides to Obama and Boehner had been working on a far-reaching package of spending cuts and new revenue that would have reduced deficits by $4 trillion over 10 years and cleared the way for lifting the $14.3 trillion cap on the government's borrowing capacity.
But Boehner's move dampened hopes of any immediate compromise and raised doubts about the chances that Sunday's talks would start moving the budget debate toward an endgame.
"Despite good-faith efforts to find common ground, the White House will not pursue a bigger debt reduction agreement without tax hikes," Boehner, the top Republican in Congress, said in a statement. "I believe the best approach may be to focus on producing a smaller measure."
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BIG DIFFERENCES REMAIN
Boehner and Obama, whose 2012 re-election prospects are tightly linked to U.S. economic and fiscal health, spoke by phone on Saturday and failed to resolve key differences over taxes and entitlement spending.
But after Boehner's announcement, the White House said Obama would not "back off" his efforts toward a comprehensive deal and suggested he might try to change the Republican's mind. Sunday's session is set for 6 p.m. EDT (2200 GMT).
"Both parties have made real progress thus far," White House communications director Dan Pfeiffer said. "Tomorrow, he will make the case to congressional leaders that we must ... take on this critical challenge."
Obama had summoned congressional leaders to lay out their "bottom-line" demands for what the White House has billed as vital phase in the quest for a sweeping budget agreement.
There had been growing pressure from rank-and-file lawmakers who must approve anything hammered out in closed-door White House talks. Critics on the left and the right had voiced unease at some options on the table, and they are now expected to dig in their heels even further.
The biggest obstacles to an agreement remain.
Democrats want to shield popular domestic programs from huge cuts and say that any deal must include increases in tax revenue, including an expiration of Bush-era tax cuts on wealthier Americans.
Republicans -- under pressure from Tea Party conservatives -- reject any increased taxes and want curbs on popular benefit programs such as Medicare, Medicaid and Social Security.
The stakes are high for Obama. His 2012 re-election hopes hinge not only on reducing America's 9.2 percent unemployment but on his appeal to independent voters who want tougher action to get the country's fiscal house in order.
But Boehner and other mainstream Republicans do not want to be blamed for the economic turmoil that could be unleashed by any government default on its debt.
For his part, Obama is risking a mutiny on the left flank of his party for even agreeing to discuss entitlement programs traditionally protected by Democrats and which many feared would have been curbed under a $4 trillion plan.
Aides to Obama and Boehner were also discussing revenue increases that would have been achieved in part by a streamlining of the tax code, something that appeals to both Democrats and Republicans.
But Democrats' demands for $1 trillion in additional revenue also include eliminating tax breaks and other measures that many Republicans were reluctant to support.
Leana Fallon, an aide to House Republican Leader Eric Cantor, urged that the talks focus on a framework for between $2 and $2.5 trillion in cuts discussed in meetings led by Vice President Joseph Biden in May and June that ended in impasse.
Democratic Representative Chris Van Hollen blamed the abandonment of a bigger deficit-reduction goal on a "Republican fixation with protecting tax breaks for corporate special interests and the very wealthy."
Republicans want an agreement for at least $2 trillion in cuts as the price for a debt limit increase big enough to accommodate borrowing needs through the 2012 election.
Obama spent Saturday at the Camp David presidential retreat in Maryland and was due to return for the rare Sunday talks, his second session with bipartisan leaders in four days. (Additional reporting by Caren Bohan, Thomas Ferraro, Andrew Sullivan and Steve Holland; Editing by Eric Walsh)