UPDATE 2-Mediaset rejects News Corp antitrust claims

* News Corp says Sky Italia ads refused by Mediaset

* Mediaset says rejects accusations

* Mediaset shares close up 1.68 pct, off highs (Adds Mediaset reaction, background)

By Nigel Tutt

MILAN, Sept 16 (Reuters) - News Corp (NWSA.O) slapped Italian broadcaster Mediaset SpA (MS.MI) with an antitrust lawsuit on Wednesday and Mediaset slammed it as unfounded, heating up the battle between Italy's media barons, Prime Minister Silvio Berlusconi and Rupert Murdoch.

Mediaset expressed surprise that News Corp unit Sky Italia had sued it, accusing Mediaset of refusing to let pay-TV satellite company Sky Italia buy advertising on its channels.

"Mediaset rejects the unfounded accusations of its competitor, and, certain of its own good case, waits with calm for the confrontation in court," the company said in a statement.

News Corp's lawsuit is the latest move in an increasingly bitter battle as Sky Italia raises its market presence and Mediaset moves further into pay-TV services from its traditional free-to-air channels.

In rejecting the accusations, Mediaset said that between January 1 and September 5 this year it carried on its network 3,107 advertising spots for Sky Italia.

Mediaset, Italy's biggest broadcaster, is owned by Berlusconi, the 72 year-old centre-right prime minister. That ownership has been the subject of a conflict of interest debate in Italy and beyond for years.

SKY ITALIA COMPLAINT

"News Corporation believes these companies have violated EC (European) rules governing free competition, as well as Italian media regulation, by refusing to allow Sky Italia to purchase advertising," News Corp said in a statement.

The Sky Italia's lawsuit was filed in Milan against Mediaset units RTI and Publitalia, it said.

Mediaset shares fell after the announcement to close up 1.68 percent at 4.84 euros.

"It is not good news, that's for sure," a Milan broker said, asking not to be named. He said Sky Italia was competing "very aggressively" with Mediaset as Mediaset moved toward more pay-TV services.

News Corp had worked for months to reach an agreement with Mediaset, but had been unable to do so, News Corp spokeswoman Alice Macandrew said on Wednesday.

"This is a last resort," she said. "Ultimately, we want to advertise on Mediaset."

Rivalry flared in June when Berlusconi said attacks against his government in The Times newspaper in Britain, which Murdoch owns, were because of a dispute over a higher value added tax on services supplied by Sky Italia's pay-TV channel.

Later in June, Sky Italia's chairman James Murdoch, son of Rupert, said during a dinner in Milan for Italian advertisers and entrepreneurs that fair competition in the Italian TV sector would favour viewers. (Additional reporting by Danilo Masoni in Milan and Robert MacMillan in New York; Editing by Elaine Hardcastle)