* Senate panel rejects amendment on public option

* Panel opens second week of debate on healthcare reform

* Other healthcare bills in Congress include public option

WASHINGTON, Sept 29 (Reuters) - A U.S. Senate panel on Tuesday rejected a government-run “public” insurance option as part of a broad healthcare overhaul, setting up a fight over one of the bill’s most contentious issues.

The two votes in the Senate Finance Committee were the first of several battles expected in Congress over a public insurance option, a flashpoint in the raging U.S. debate over President Barack Obama’s top domestic priority.

Democratic Chairman Max Baucus opposed both amendments, and said Democrats could not muster the 60 Senate votes needed to clear Republican procedural hurdles and pass a healthcare reform bill if it includes the public option.

“I can count,” Baucus said. “No one has been able to show me how they can count up to 60 votes with a public option in the bill.”

Supporters of the option disagreed and said they expected more success when the issue is taken up in the full Senate and the House of Representatives, where House Speaker Nancy Pelosi has vowed the public option will be included in a final bill.

“The more the American people hear about the public option, the more they like it,” said Democratic Senator Charles Schumer, who sponsored one of the amendments.

The Senate Finance plan by Baucus is the only healthcare reform bill pending in Congress that does not have a public insurance plan, which Obama and other backers say would boost competition for insurers.

Republican critics say the public option would devastate the private insurance industry and ultimately lead to a government takeover of the sector.

Democratic Senator John Rockefeller, who offered the other amendment to insert a public option, said the approach would give the public more choices and force the insurance industry to compete.

“Who comes first, the insurance companies or the American people?” he asked.

Senator Charles Grassley, the senior Republican on the panel, said the public option would represent a first step toward the eventual goal of Democrats -- a complete government-run health insurance system.

‘DRIVE INSURERS OUT OF BUSINESS’

“A government-run plan will ultimately drive private insurers out of business,” Grassley said. “If you support government bureaucrats, not doctors, making decisions, you should support this amendment.”

Five Democrats joined panel Republicans to oppose Rockefeller’s amendment, 15-8. The second amendment, by Schumer, failed 13-10 with three Democrats opposed.

The votes came as the panel opened its second week of debate on a broad overhaul of the $2.5 trillion healthcare system.

The panel hopes to finish debate this week, with a final vote by at least early next week that will send it to the full Senate.

Senate Democratic Leader Harry Reid will merge the Finance panel’s bill with one passed by the Senate Health committee before the full Senate takes up healthcare reform in the next few weeks.

The $900 billion Baucus bill, one of five pending in Congress, is designed to control costs, regulate insurers and expand coverage to more of the 46 million uninsured people living in the United States.

The plan under consideration by the Senate Finance panel would create state-based exchanges where individuals and small businesses could shop for insurance, but would not offer a government-run plan as an option.

As an alternative, the committee’s bill would create nonprofit insurance cooperatives to create competition. Rockefeller and other public option backers say cooperatives are unproven and would not offer enough competition.

Democratic Senator Kent Conrad, the prime proponent of cooperatives, said there were plenty of innovative models using non-profit approaches that have been tried around the world.

“We’ve gotten locked in a really sterile debate that says the only alternatives are what we’ve got now or a public option,” Conrad said.

Rockefeller’s amendment would have tied reimbursement rates for healthcare providers to the lower rates under Medicare, the health insurance plan for the elderly, for two years.

If that happens, Conrad, who is from North Dakota, said, “every major hospital in my state goes broke.”

Rockefeller and Schumer said they had expected the issue to lose in the more conservative Senate panel but wanted to kick off debate. Republicans were skeptical.

“If it’s so popular, why are there so many Democrats who have a problem with it?” Republican Senator John Ensign asked of the public option. (Editing by David Storey)