* Italy negotiating with Brussels over deficit target
* Budget targets at least 8.5 bln euros of extra revenues
* Budget watchdog says GDP growth forecast unrealistic
By Giuseppe Fonte
ROME, Oct 14 (Reuters) - Prime Minister Matteo Renzi's cabinet will meet on Saturday to approve Italy's draft 2017 budget hoping that a modest reduction in the targeted budget deficit will convince the European Commission to approve the package.
Renzi faces a referendum on constitutional reform in December that will decide his political future and is anxious to avoid any unpopular belt tightening.
He has said he wants to keep the deficit at 2.4 percent of gross domestic product, the same level as targeted for this year, but the Commission is pushing Italy to make at least some progress in fiscal consolidation.
A compromise is likely to be reached in the region of 2.2 percent, government sources say, double the 1.1 percent it had pencilled in for 2017 earlier this year.
The Commission says that with Italian economic growth remaining weak, only by curbing the deficit can Rome rein in its public debt, which has reached a record of 133 percent of GDP, the highest in the euro zone after Greece's.
The budget's structure has already been set out by Economy Minister Pier Carlo Padoan. It contains few of the tax handouts that marked Renzi's last two budgets but avoids a rise in sales tax which had previously been pencilled in.
The hike in value added tax rates would have increased revenues by around 15 billion euros ($16.80 billion), so the money has to be found in other ways.
These remain vague but the government has so far said only 2.6 billion euros will come from cuts in spending, while revenues are targeted to increase by around 8.5 billion euros thanks mainly to various schemes to curb tax evasion.
The budget contains around 9 billion euros of expansionary measures aimed at stimulating growth, including tax breaks for companies that invest in machinery and for people doing building work on their homes.
It sets aside 1.6 billion euros to allow some categories of workers to retire earlier, rowing back on a pension reform in 2012 that raised the retirement age, and allocates funds to rebuild central Italian towns hit by an earthquake in August.
The public finance targets are based on the assumption that the economy will grow by 1 percent next year, which is above the forecast of most economists.
In an unprecedented step, the Parliamentary Budget Office, Italy's public finance watchdog, refused last week to rubber stamp the government's forecasting document, saying the growth outlook was "too optimistic."
The cabinet is due to meet on Saturday at 1300 GMT to sign off on the budget, which will then be sent to the European Commission for its review and begin its passage through parliament, where it must be approved by the end of the year. ($1 = 0.8928 euros) (Writing by Gavin Jones; editing by Mark Heinrich)