A bitterly divided Congress set the United States on a collision course with financial markets on Monday as Democrats and Republicans pursued rival plans unlikely to generate the broad support needed to avert a catastrophic and unprecedented debt default.

With an August 2 deadline little more than a week away, lawmakers have steadfastly refused to compromise and talks have once again collapsed in finger pointing and acrimony.

Investors have begun to react to the possibility of a first-ever default, which could push the world's largest economy back into recession and send shockwaves through global markets. U.S. stock futures fell in overseas trading, pointing to a poor open for U.S. markets.

There's an old saying that things don't matter until the day they matter; we're getting close to the day when it will matter, said Quincy Krosby, market strategist at Prudential Financial in Newark, New Jersey.

President Barack Obama and congressional leaders have tried to reassure global markets that the country will be able to service its debt and meet other obligations after August 2, when the Treasury Department will have exhausted its reserves.

Lawmakers, apparently recognizing the serious risk that investors will dump the U.S. dollar and Treasury bonds out of fear America will default or at least lose its Triple-A credit rating, set a Monday deadline to show markets a plan.

But talks between Democrats and Republicans in Congress fell apart once again on Sunday, after House Speaker John Boehner acrimoniously broke off talks with Obama on Friday.

Now the Republican-controlled House and the Democratic-controlled Senate appear to be heading for a showdown as their leaders develop competing legislation.

It is not clear whether either plan would satisfy ratings agencies, which warn that the United States must take significant steps to get its long-term fiscal problems under control in order to preserve its top-notch status. A downgrade would raise costs for the government American consumers, whose spending helps drive U.S. economic growth.

Democratic Senator Harry Reid aims to raise the debt ceiling by $2.7 trillion, enough to cover the country's borrowing needs through the November 2012 elections. That would be paired with an equal amount in spending cuts over 10 years -- short of the $4 trillion in deficit savings that experts say will be necessary to keep debt at a sustainable level.

Boehner's plan would raise the debt limit in stages, forcing Congress to confront the politically painful issue again before the election. His plan could potentially deliver bigger budget savings through an overhaul of the tax code and a reform of expensive health benefits that are expected to balloon over the coming decade.


Neither plan would raise taxes, despite Obama's insistence that tax hikes need to be part of the solution. Democrats want to ease the pain of spending cuts by phasing them in gradually over 10 years and increasing taxes on the wealthy.

In a bid to retain the support of Tea Party-aligned conservatives in his party, Boehner's plan could also include some form of a balanced-budget amendment to the Constitution, even though the Senate voted down a similar bill last week.

I do think there is a path, but it's going to require us to stand together as a team, Boehner told fellow House Republicans, according to several sources. It's going to require some of you to make some sacrifices.

Reid said Boehner's plan will get nowhere in the Senate.

Speaker Boehner's plan, no matter how he tries to dress it up, is simply a short-term plan, and is therefore a non-starter in the Senate and with the president, Reid said in a prepared statement.

Going into the weekend, lawmakers said they aimed to have a deal in place by Monday, to allow time for the House and then the Senate to act in an orderly fashion. The picture is less clear now that both chambers will be advancing rival bills. The Senate generally needs a week to pass any legislation unless opponents can be persuaded to drop procedural barriers -- an uncertain prospect on such a high-profile issue.

Robert Tipp, chief investment strategist at Prudential Fixed Income, said he thought the most likely scenario is a small deal that averts default but bumps the United States down to AA status. I think that's what the agencies have signaled, and therefore that's what the markets are expecting, he said.

(Additional reporting by Richard Cowan in Washington and Ryan Vlastelica in New York; Editing by Kristin Roberts and Doina Chiacu)