A sweeping budget deal and lower interest rates will slice projected U.S. budget deficits nearly in half over the next 10 years, but the economy will remain sluggish in the near term, the nonpartisan Congressional Budget Office reported on Wednesday.

Unemployment will remain stubbornly high and economic growth will remain sluggish through 2012, CBO said. This could pose a challenge to President Barack Obama's re-election hopes.

Although economic output began to expand again two years ago, the pace of the recovery has been slow, and the economy remains in a severe slump, CBO Director Doug Elmendorf wrote in a blog post.

CBO reported that the United States will rack up $3.487 trillion in cumulative deficits over 10 years, some $3.3 trillion below its previous projection.

It said the current 9.1 percent unemployment rate will only fall to 8.5 percent in the fourth quarter of 2012, when voters head to the polls for presidential and congressional elections.

Gross domestic product will grow by an annual rate of 2.4 percent this year and 2.6 percent next year, CBO said.

Stocks pared losses and Treasury bond prices fell as the figures revealed a stronger fiscal outlook than previously thought.

(Reporting by Andy Sullivan and Richard Cowan; editing by Vicki Allen)