Egypt struggle seen costing Mursi, even if he wins
* Deep divide in Egypt will complicate Mursi's rule
* Crisis erodes both sides' faith in nascent democracy
* Will hamper Brotherhood search for liberal allies in vote
By Tom Perry and Edmund Blair
CAIRO, Dec 7 (Reuters) - The crisis unleashed by President Mohamed Mursi's bid to wrap up Egypt's transition on his own terms has eroded his nation's faith in their nascent democracy and will complicate the already unenviable task of government.
His effort to drive through a constitution against the wishes of major sections of society, including a Christian minority, has damaged prospects for building consensus needed to tackle challenges ahead, such as fixing a broken economy.
Having promised to be a president for all, Mursi stands accused of putting the interests of his group, the Muslim Brotherhood, ahead of others who say their aspirations are not reflected in the draft to be put to a Dec. 15 referendum.
On the other side, suspicions harboured by Islamists towards their secular-minded opponents have only deepened as a result of the turmoil ignited by Mursi's effort to fast-track the final stage of the transition from Hosni Mubarak's rule.
With the more extreme among them opposed to the very notion of democracy, the Islamists say their rivals are not respecting the rules of the game that put them in the driving seat by winning free and fair elections.
People anxious to see Egypt recover from two years of turbulence fear bad blood could persist and squash hopes for cooperation needed to help Mursi rule smoothly and deliver much-needed reforms.
"If they succeed in the referendum, they will see that as a step forward, but not without cost," said a Western diplomat.
Though Mursi won international praise for mediating a truce in Gaza, the violence on his own streets worries the West and particularly the United States, which has given Cairo billions of dollars in military and other aid since Egypt made peace with Israel in 1979. U.S. President Barack Obama told Mursi on Thursday of his "deep concern" about casualties during protests.
A victim of the polarisation could be the Brotherhood's plans to forge electoral alliances with liberals in forthcoming parliamentary polls. The head of the Brotherhood's Freedom and Justice Party told Reuters this week he saw such alliances as preferable to an ideological tie-up with other Islamists.
The divisions are now playing out in the streets. Seven people were killed and hundreds wounded this week in clashes between Islamists and their rivals. A call by Mursi for dialogue was rebuffed by activists who are to protest again on Friday.
"We said that this state of polarisation, if it was not dealt with properly, would reach this point, and it has," said Ayman Al-Sayyad, who quit his post as a Mursi adviser on Wednesday following an eruption of violence.
"This was the scene that we were trying to avoid," he added in an interview with al-Hayat television.
The inclusive image Mursi had tried to build around his administration was one of the first victims of the crisis that mushroomed following a Nov. 22 decree that expanded his powers and protected his decisions from judicial review.
A Christian and a woman were among the first to resign from his staff, as surprised by the decree as most Egyptians. Despite an early bout of violence, Mursi showed no sign of wavering and appeared to brush off his critics.
"I see things more than they do," he told Time.
With speculation swirling around how he took the decision, Egyptians long suspicious of the Brotherhood have concluded Mursi is running the country at the group's command.
In response, the Islamists complain that many of Mursi's attempts at outreach were rebuffed early on. Their view of the opposition has grown dimmer through the crisis. Brotherhood members have started to dismiss opponents as "feloul", meaning "remnants" - a pejorative implying loyalty to Mubarak.
"The really unfortunate side effect of the last two weeks is the political atmosphere has become really toxic. I fear that could endure long past the current crisis," said Elijah Zarwan, a fellow with the European Council on Foreign Relations.
"The next government is going to have to move very quickly to address many problems and it will need cooperation. In the current atmosphere, it is hard to imagine others cooperating."
Such cooperation will be at a premium for introducing policies aimed at reining in a crushing budget deficit and staving off a balance of payments crisis. Egypt's economy has lost $70 billion to $80 billion of economic output since Mubarak was ousted, in one economist's estimate.
Top of the economic to-do list are measures to cut back on fuel subsidies - one of the biggest drains on state finances. Tweaks to such support are bound to be unpopular in a nation where both rich and poor have grown used to cheap petrol.
"He has inherited an economy that is weak and needs serious surgery, so he is going to have to make controversial decisions over the next year or so," said Simon Kitchen, strategist at EFG-Hermes, an Egyptian investment bank.
"Ideally you want to do that in an environment where you have some sort of political consensus," he said.
"THEY BURNED THEIR BRIDGES"
Some subsidy reform and other steps to cut waste are part of a programme agreed in principle with the International Monetary Fund for $4.8 billion loan designed to support the budget.
The IMF board meets on Dec. 19 to discuss approval of the loan, which would be seen by investors as a seal of approval for the government's reform programme.
Besides the economy, Mursi needs wider backing to tackle other problems including a judiciary which his opponents agree needs overhaul. But even when he sacked the unpopular, Mubarak-era prosecutor general, Mursi was criticised for showing an autocratic streak in the way he went about it.
In the new system of government outlined in the draft constitution, Egypt's next parliament will have a say over the shape of government. A parliamentary election would go ahead some two months later if the constitution is approved in the referendum.
With that in mind, the Freedom and Justice Party is already eyeing alliances to fight the parliamentary election.
FJP leader Saad al-Katatni said in an interview his preference was for an alliance with liberals, not the hardline Islamists whose backing has helped Mursi through the crisis. "Our preferred option is that the alliance not be ideological so that we don't have a split in the nation," he said.
The Brotherhood had kept the nascent hardline Salafi parties at arm's length as they emerged after Mubarak's political demise. That trend has gradually been reversed as the Brotherhood has looked to fellow Islamists for support.
"They burned their bridges with the secular camp and relied heavily on the Salafi camp. We don't feel that is where they naturally want to be right now," said the Western diplomat, speaking on condition of anonymity.
Sentiment from liberal parties suggests the Brotherhood will struggle to convince liberals that it is a trustworthy partner.
"I don't think the man realizes the degree of rebellion and rage the people have," said Ahmed Said, head of the liberal Free Egyptians Party, referring to Mursi. "The country is totally divided and polarised. You have two nations now."
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