UPDATE 1-Brent falls towards $112; China data offsets US concerns
* Eyes on bigger U.S. budget battles in the next two months
* U.S. crude stockpiles likely fell last week - poll
* Coming up: U.S. weekly API oil stocks at 2130 GMT
SINGAPORE, Jan 3 (Reuters) - Brent crude pared earlier losses to stay above $112 a barrel on Thursday as positive data reinforced hopes of an economic recovery in China, but the prospect of more budget battles in the United States and rising oil supply weighed on prices.
President Barack Obama and congressional Republicans face even bigger budget wrangling in the next two months after a hard-fought deal halted a round of automatic fiscal tightening that threatened to push the world's largest economy into recession.
Brent crude fell 29 cents to $112.18 a barrel by 0529 GMT after rising more than 1 percent on Wednesday to settle at the highest since October.
U.S. crude for February delivery was down 21 cents to $92.91 after closing at its highest since September.
"After the initial excitement, reality sets in," said Victor Shum, oil consultant at IHS Purvin & Gertz. "There will be other negotiations and the deal is a compromise."
Both contracts pared earlier losses of more than 50 cents after data showed China's services sector expanded in December, fueling hopes that the world's second largest economy is recovering.
Oil prices surged at the start of the year despite analysts' expectations of a lower price in 2013 as supply outweighs demand. Crude production in the United States has hit a 19-year high while Russia pumped the most oil in the world last year, ahead of Saudi Arabia.
"If one focuses on the oil fundamentals, pricing at the current level appears overbought," Shum said, pointing to the fragile global economy and the growth in oil production from non-OPEC countries.
"In 2013, OPEC may have to limit supply in order to accommodate a rise in non-OPEC oil production growth," he said.
In the United States, a major pipeline expansion that aims to ease the bottleneck at Cushing, Oklahoma -- a factor that has depressed U.S. crude prices -- should pump at full rates from the end of next week.
The spread between Brent and West Texas Intermediate <CL-LCO1=R> has narrowed to about $19 a barrel, down from 2012 highs of about $26.
Investors will be scouring weekly data on U.S. jobless claims and oil inventories due later on Thursday for further cues on the economic health of, and fuel demand in, the world's largest economy.
U.S. commercial crude oil stockpiles likely fell last week due to lower imports as refiners drew down inventories for year-end tax purposes, a preliminary Reuters poll of eight analysts showed.
The American Petroleum Institute (API) will release its report on Thursday, delayed due to the New Year day's holiday on Tuesday. The U.S. government's Energy Information Administration (EIA) will issue its data on Friday.
(Editing by Michael Urquhart and Miral Fahmy)