By Kevin Drawbaugh and John Poirier

In the first big test of how he will work with Congress and tackle dissent from within his own Democratic party, Obama tried to rally support at a lunch with Senate Democrats and sent top economic aide Lawrence Summers to a closed-door meeting with members of the powerful Senate Finance Committee.

"It's very, very important that we be in a strong position on financial recovery," Summers, who will become director of the National Economic Council, said after his meeting.

Obama -- who takes over from President George W. Bush on January 20 -- may face the awkward situation of having to quickly wield his veto power to push through an unpopular policy if Congress votes to block the release of the money. A vote could come as early as Thursday.

Many lawmakers are unhappy with how the government has spent the first half of a $700 billion bailout fund, which was hastily approved shortly after the financial crisis intensified following the failure in September of Lehman Brothers.

But top U.S. regulators argued that the still-ailing financial system urgently needed the second $350 billion, and without it the recession, now over a year old, may deepen.

At a Congressional hearing, they suggested that some of the money could be used to buy bad assets that banks are struggling to value or sell -- which was the stated intent when the Bush Administration originally proposed the bailout fund.

At Obama's request, Bush formally asked on Monday for the second half of the bailout fund, starting a 15-day countdown for Congress to reject it or let the money flow.

Democrats and Republicans alike have complained that there was too little transparency into how the government doled out the first half of the cash. They have demanded more details from Obama before the remaining money is released.

Some Republicans are reluctant on political grounds to promote more government intervention in the economy, while many Democrats object to how the first $350 billion has been handled.

ENOUGH VOTES

Illinois Democrat Sen. Dick Durbin said winning Senate approval for releasing the money would be "challenging" and Utah Republican Sen. Orrin Hatch told Reuters that there were probably enough Senate votes to block it.

If that happens, Obama could overturn the decision with a veto after he takes office on January 20. Congress would then need to muster a two-thirds majority to override it.

"It's a high hurdle to clear," Tennessee Republican Sen. Lamar Alexander said in an interview, referring to the two-thirds majority.

That would certainly not be an ideal start to Obama's presidency, and his economic aides were keen to quell the opposition before a vote.

A congressional fight would also add to uncertainty among investors who are eager for a clearer sense of how Washington intends to combat the financial turmoil and recession.

The Dow Jones industrial average dipped into negative territory shortly after Durbin and Hatch expressed doubts about the Senate approving the money, and it was down over 75 points at mid-afternoon.

Most of the initial $350 billion has gone to buy stakes in banks. Lawmakers have accused Treasury of handing over the cash with too few conditions on how it would be used, leaving banks free to hoard public money.

"The American people still don't have assurances that this money will not be wasted or misused to play favorites," Senate Republican leader Mitch McConnell said.

At a House Financial Services Committee hearing on Tuesday, officials from the U.S. Federal Reserve and the Federal Deposit Insurance Corp said the remaining money was badly needed both to shore up banks and to help repair the housing market.

Fed Vice Chairman Donald Kohn said the remaining $350 billion would play an "essential role" in restoring credit markets to normal, which is vital to keeping money flowing to the consumers and companies that drive the U.S. economy.

Fed Chairman Ben Bernanke said earlier on Tuesday that banks may need more government money and the economy cannot recover until the financial sector is stabilized.

Bernanke, speaking at a conference at the London School of Economics, floated the idea of setting up a "bad bank" to buy up troubled assets that firms are struggling to value or sell, similar to the original financial rescue plan.

Neel Kashkari, the Treasury Department official who is in charge of administering the $700 billion rescue program, said thousands more financial firms were lining up for government cash, but it would take time for the investments overall to ease lending conditions.

In a sign that banks remain under strain despite trillions of dollars in government lending and guarantees, Citigroup Inc shares slipped to their lowest level since the company won a government rescue in November, as investors braced for heavy fourth-quarter losses.

(Additional reporting by Kevin Drawbaugh, Donna Smith, Thomas Ferraro, Jeremy Pelofsky and Mark Felsenthal; Writing by Emily Kaiser, editing by Philip Barbara )