By Kevin Drawbaugh and David Lawder
WASHINGTON (Reuters) - Both sides in the U.S. "fiscal cliff" debate stood their ground on Tuesday as they gathered in Washington for the first time since the elections, with a fundamental tax dispute preventing a broader compromise on deficit reduction.
The White House made clear it was ready to negotiate with Republicans on taxes and spending, but a spokesman for Democratic President Barack Obama said he will not budge on insisting that tax rates for the wealthy must rise in 2013.
Obama wants to extend the individual income tax rates for 98 percent of Americans, but he will not agree to extend them for the top 2 percent of earners, White House spokesman Jay Carney told a briefing. He said the president would demand that a deficit-cutting agreement include $1.6 trillion in new tax revenues.
Obama is scheduled to hold a news conference on Wednesday, during which he will be questioned about negotiations.
Senate Republican leader Mitch McConnell said his party was open to discussing new government revenues, but not raising tax rates. "We're ... not about to further weaken the economy by raising tax rates and hurting jobs," he said.
The defiant remarks came as Congress returned from a post-election break with seven weeks left to deal with the "fiscal cliff," a convergence of urgent tax and spending issues that, if mishandled, could plunge the economy into another recession according to the non-partisan Congressional Budget Office.
Obama foreshadowed the difficult talks during a call on Tuesday evening to thank thousands of campaign volunteers, whom he encouraged to stay involved.
"We're going to have some triumphs and some successes, but there are going to be some tough days, starting with some of these negotiations around the fiscal cliff," he said. "We're going to need you guys to stay active."
While the big fight is over tax rates, the dispute has held up other consequential tax measures on which there is less disagreement. Among them is a fix to the alternative minimum tax, which is designed to protect Americans who are not wealthy from being taxed as if they were.
In a new letter to lawmakers on Tuesday, the U.S. tax commissioner reiterated that more than 60 million taxpayers - half of all individual filers - could be adversely affected by Congress' failure to resolve these lower-profile issues.
The letter said millions would not even be able to file their returns or receive a refund until late March, while the IRS belatedly adjusts its systems.
Generally weak since the elections, U.S. stock markets were flat on Tuesday, with nervous investors eyeing Washington amid skepticism about lawmakers' ability to make fiscal decisions.
About half of Americans doubt that Obama and congressional Republicans will be able to reach an agreement to resolve the "fiscal cliff," according to a poll released by the Pew Research Center for the People and the Press.
A regular survey of small business sentiment showed hopes of a pick-up in sales, but widespread uncertainty among owners about business conditions in the next six months. The National Federation of Independent Business said its optimism index rose 0.3 point to 93.1 in October.
"We're three weeks away from serious negotiations on the 'fiscal cliff'," said Greg Valliere, chief political strategist at Potomac Research Group in Washington.
"This is a photo-op week, next week is Thanksgiving, then lawmakers will straggle back to Washington to examine what staffers have come up with. The dominant theme in these three weeks will be trial balloons," he said.
At the end of 2012, low, "temporary" tax rates enacted a decade ago under former President George W. Bush are set to expire. If Congress does nothing, individual income tax rates will rise sharply. That is a key facet of the "fiscal cliff."
Another element is deep, across-the-board cuts in federal programs that will take effect in January if Congress takes no action. Lawmakers fear the cuts, known as the "sequester," could devastate the economy and many are working to prevent them.
Obama - fresh from a re-election triumph over Republican challenger Mitt Romney - hosted liberal and labor groups at the White House. Attendees said Obama made his stance clear on tax cuts, but did not ring-fence government social programs dear to Democrats, such as Medicare, Medicaid and Social Security.
"There was absolute consensus in the room that ... tax cuts for the top 2 percent" must not be extended, said Dennis van Roekel, head of the National Education Association teachers' union.
In a glimpse of one possible compromise, a key Senate Democrat suggested flexibility in raising taxes on the wealthy.
Senate Finance Committee Chairman Max Baucus agreed that while the rates paid by the richest Americans must be increased rise to reach a deal, they might not have to go up as much as Obama is insisting, to 39.6 percent.
At an investor conference in New York, Bank of America Corp
Corporate chiefs were slated to visit the White House on Wednesday to talk with Obama. The U.S. Chamber of Commerce, the nation's largest business lobbying group, backed mostly Republicans in the elections and has not been invited.
Chamber President Thomas Donohue brushed off the exclusion. "The president has a lot of meetings," he said at a roundtable with reporters. (Additional reporting by Kim Dixon, Richard Cowan, Rachelle Younglai, Thomas Ferraro, Lisa Lambert and Jeff Mason in Washington; with David Gaffen and Rick Rothacker in New York; Editing by Fred Barbash and Christopher Wilson)