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I think holding your ground and walking away is the best option. Sorry to hear that it didn't go the way you wanted, there are other homes out there--all mostly for great prices!
Doesn't that suck! However, it means it wasn't meant to be and there's a better house out there for you.
Keep countering. If they say no, you are in the same spot (its above your range) if they say yes or counter offer again, then you are in the game.
The best way to negotiate and get the best price is to be able to walk away. So keep it going since you are over your budget anyways. Maybe move up 1K so they know you are not budging much since you cant.
I have known sales to go back and forth many times, especially at a foreclosure.
You will find a house that will make you wonder why you even worried about this one... keep moving
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at $10k less than the list price and over $10k more than the foreclosure deed. We offered $175k and the list price is at $219k, that's barely moving toward a compromise at all! Plus, it's about $20k more than we wanted to pay for the house. So I guess that means moving on and looking at some more houses, oh well.