UPDATE 2-Arab League eyes alternatives to peace process

* Arab League chief: Middle East peace at a turning point

* Amr Moussa proposes dialogue with Iran

* Turkey, Arab states 'should form regional grouping'

(Adds more details)

By Lamine Ghanmi

SIRTE, Libya, March 27 (Reuters) - Arab states should prepare for the possibility that the Palestinian-Israeli peace process may be a total failure and prepare alternatives, Arab League Secretary-General Amr Moussa said on Saturday.

He did not specify what the alternatives might be, but one possibility is a revival of an initiative first proposed eight years ago under which Arab states would normalise ties with the Jewish state in exchange for Israeli concessions on territory.

The troubled Middle East peace process suffered a fresh setback this month when the Palestinians said indirect talks with the Israelis would not take place unless Israel cancelled a decision to build 1,600 new homes in a settlement near east Jerusalem.

Speaking to Arab leaders at a summit of the Arab League in the Libyan town of Sirte, Moussa said the peace process had reached a turning point and that it was time for Arab states to stand up to Israel.

He also said the Arab League should open a dialogue with Tehran to address concerns, especially among Iran's neighbours across the Gulf, about its nuclear programme.

"We have to study the possibility that the peace process will be a complete failure," Moussa said in his opening speech to the summit.

"It's time to face Israel. We have to have alternative plans because the situation has reached a turning point," he said.

"The peace process has entered a new stage, perhaps the last stage. We have accepted the efforts of mediators.

"We have accepted an open-ended peace process but that resulted in a loss of time and we did not achieve anything and allowed Israel to practise its policy for 20 years."

DIFFERENCES WITH TEHRAN

The alternative to the stalled peace process which is favoured by many states in the region is the Arab Peace Initiative, first proposed by Saudi Arabia at an Arab League summit in Beirut in 2002.

Under that initiative, Arab countries would normalise relations with Israel in return for a complete Israeli withdrawal from occupied territories and a fair settlement for Palestinian refugees.

On Iran, Moussa acknowledged member states had differences with Tehran, but said they had common interests too.

"We have to open a dialogue with Iran. I know there is a worry among Arabs regarding Iran but this situation confirms the necessity of a dialogue with Iran," he said.

The Arab League chief also proposed creating a regional grouping that would bring together Arab states and Turkey.

Ankara has traditionally had close ties to Israel but relations have soured in the past few months. Turkish Prime Minister Tayyip Erdogan was a guest of Libyan leader Muammar Gaddafi at the summit.

Gaddafi, who is taking over the Arab League's rotating presidency, used his speech at the summit to castigate what he said was years of failure by Arab states to take strong collective action in standing up to Israel.

The Libyan leader is well known for his outspoken style and run-ins with fellow Arab leaders. He has been particularly critical in the past of Egypt and Saudi Arabia, two states that have close ties to the United States.

The leaders of both countries were among several heads of state absent from the summit. (Writing by Christian Lowe; Editing by Mark Trevelyan)