(Reuters) - A deal to renew a payroll tax cut for 160 million U.S. workers through 2012 headed on Thursday toward congressional approval as Democratic and Republican leaders rallied support for the bipartisan agreement.

The measure represents a victory for President Barack Obama and his fellow Democrats. At the same time, it allows Republicans to move on from a battle over taxes that divided them and threatened their standing among voters in the November elections.

The Republican-led House of Representatives and the Democratic-led Senate are expected to approve it as early as Friday. The package also would renew expiring jobless benefits for millions of long-term unemployed and prevent a steep pay cut for doctors treating elderly Medicare patients.

Congressional passage would clear the way for Obama to sign the $150 billion package into law before February 29, when the tax cut and unemployment benefits are due to expire.

Workers would continue to pay 4.2 percent into the Social Security retirement system, rather that seeing the rate snap back to 6.2 percent. The payroll tax cut gives the average family an extra $1,000 in their pay checks this year.

House Speaker John Boehner, the top U.S. Republican, tried to put a positive spin on the agreement, which was made possible only by a major Republican concession on spending cuts. He called the agreement fair and said it was necessary to counter Obama's failed economic policies.

Let's be honest, this is an economic relief package, not a bill that will grow the economy and create jobs, Boehner said.

But many House Republicans aligned with the budget-slashing Tea Party movement are upset that Boehner agreed to add $100 billion to the record U.S. deficit by dropping a demand that the tax cut extension be paid for with spending reductions.

'PARTY OF TAX CUTS'

Senior Democratic and Republican aides predict that the deal would win approval with bipartisan support.

We can't afford to oppose a tax cut. We are the party of tax cuts, one Republican aide said.

Most House Democrats are expected to vote for the deal, happy they were able to prevent any cuts in Medicare benefits. They had to accept some paring back of jobless benefits.

The House's No. 2 Democrat, Steny Hoyer, opposed the deal because of a cost-saving provision requiring federal workers to pay more into their pension plans.

We must stop targeting these hardworking men and women while not asking others to contribute their fair share, said Hoyer, who has many federal workers in his Maryland district.

While most congressional leaders backed the accord, Senate Republican leader Mitch McConnell had no immediate comment, his office said. There have been complaints that Senate Republicans had been shut out of negotiations, but Boehner denied this.

House Democratic leader Nancy Pelosi said most Democrats would back the package.

Economists say the tax cut and jobless benefits should give a lift to the U.S. economy, certain to be a key issue in the battle for control of Congress and the White House in November 6 elections.

Allowing the tax cut and jobless benefits to expire would shave 0.7 percentage point off economic growth this year, said Mark Zandi, chief economist at Moody's Analytics.

The deal reduces the maximum number of weeks for unemployment benefits, which get fully spent into the economy, and that will take about a 0.1 percentage point off growth this year, Zandi told Reuters.

The agreement ends a battle that has raged in Congress for months over the effectiveness of the payroll tax cut in stimulating the economy and extending long-term unemployment benefits amid an 8.3 percent national unemployment rate.

The payroll tax cut has sown division among Republicans, many of whom have questioned its economic benefits, and left the party vulnerable to Democratic attacks that it favors tax cuts for the wealthy but not for middle-class Americans.

(Editing by Mari Milliken and Mohammad Zargham)

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