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In a statement, Moody's said it would put the Aaa U.S. credit rating on review for a possible downgrade if lawmakers in Washington do not make substantive progress in budget talks by the middle of July.

"Since the risk of continuing stalemate has grown, if progress in negotiations is not evident by the middle of July, such a rating action is likely," Moody's said.

The rating outlook is stable whereas Standard & Poor's in April revised to negative its credit outlook on the U.S. rating, citing similar concerns over political wrangling in Washington over what many consider are unsustainable levels of U.S. debt.

The heightened polarization over the debt limit has increased the chances of a short-lived default. If this situation remains unchanged in coming weeks, Moody's will place the rating under review, the firm said.

Without a debt limit increase, either on August 2 or some later date, U.S. Treasury Secretary Timothy Geithner likely would have to make decisions on which bills to pay. He could decide to delay Social Security benefit payments to retirees, withhold military pay, sell some government assets or not pay off government bond-holders.

The U.S. deficit is expected to reach $1.4 trillion this year. The debt ceiling is currently $14.3 trillion.

The ratings agency said if the debt limit is raised and default avoided, the Aaa rating will be maintained. Still, the rating outlook will depend on the outcome of the debt talks, Moody's said.

"Moody's downgrade adds pressure on Congressional leaders to work hard at reaching an agreement to increase the debt ceiling," said Kathy Lien, director of currency research at GFT Forex in New York.

If a downgrade were to occur, Moody's said it would put the U.S. credit in the Aa range.

A face-to-face meeting is a chance for Geithner to make the case that the debt-limit vote is needed to address spending that has already been incurred and that with financial markets already shaky, a failure to lift the ceiling could further unsettle investors and risk grave harm to the economy.

"I think there is some consternation in terms of how politicians are going to play out the debt ceiling between now and August 2," said Fred Dickson, chief market strategist at D.A. Davidson & Co in Lake Oswego, Oregon.

"We're in a period of above-average volatility, and I think this will probably add to that."

(Additional reporting by Nick Olivari; Editing by James Dalgleish)

The Economic and Financial Committee (EFC) of deputy ministers and senior officials of the 17-nation currency zone approved the Greek program in principle in talks in Vienna that ended after midnight, the source said.

The second program for Greece, which will effectively supersede the 110 billion euro ($160 billion) bailout agreed in May 2010, will involve some participation of private sector investors but limited to avoid triggering a credit event, the source said.

Details of that involvement, and the apportionment of the additional official international funding, remain to be worked out in time for a June 20 meeting of euro zone finance ministers, the source said.

He declined to comment on figures but said the program would cover Greece's funding needs on the assumption that it could not return to private capital markets in 2011 or 2012. The original bailout envisaged Athens raising 27 billion euros on the markets next year and 38 billion in 2012.

A troika of EU, European Central Bank and International Monetary Fund inspectors has been working with the Greek government for weeks on a detailed plan of additional spending cuts, revenue increases and privatizations to get Athens back on track after it missed fiscal targets due to a revenue shortfall.

The source said the program would involve detailed commitments by Greece on the governance of a new national wealth agency and the timing of specific privatizations, but it would stop short of intrusive international supervision of the agency.

(Reporting by Paul Taylor; editing by Dina Kyriakidou/Ruth Pitchford)

Initial claims for state unemployment benefits slipped 6,000 to a seasonally adjusted 422,000, the Labor Department said. The prior week's figure was revised up to 428,000.

Economists polled by Reuters had forecast claims dropping to 415,000 from a previously reported count of 424,000.

The claims report falls outside the survey period for the government's closely watched data on nonfarm payrolls for May.

The government is expected to report on Friday that employers added 150,000 jobs last month, according to a Reuters survey, after increasing payrolls by 244,000 in April.

Initial claims have been volatile in recent weeks as supply chain disruptions from the March earthquake in Japan caused temporary motor vehicle plant closures.

Claims have also been distorted by bad weather in some parts of the country and problems smoothing the data for seasonal variations.

A Labor Department official said there was nothing unusual in the state-level data, but noted that four states and territories, including Virginia and Oklahoma, had been estimated because of the Memorial Day holiday on Monday.

He also said Missouri had indicated that floods were affecting claims in the state, but provided insufficient information to quantify the impact.

The four-week moving average of new jobless claims, considered a better gauge of labor market trends, fell 14,000 to 425,500.

Initial claims have now been perched above the 400,000 mark for eight weeks in a row. Analysts normally associate that level with steady job growth.

The number of people still receiving benefits under regular state programs after an initial week of aid slipped 1,000 to 3.71 million in the week ended May 21.

Economists had expected so-called continuing claims to dip to 3.67 million from a previously reported 3.69 million.

The number of people on emergency unemployment benefits rose 3,363 to 3.42 million in the week ended May 14, the latest week for which data is available. A total of 7.68 million people were claiming unemployment benefits during that period under all programs.

(Reporting by Lucia Mutikani; Editing by Neil Stempleman)