UPDATE 8-Coalition ally demands Israel's Olmert step down
(Adds television survey on Israeli views about Olmert)
JERUSALEM, May 28 (Reuters) - Ehud Olmert's main coalition partner demanded on Wednesday the Israeli prime minister leave office over corruption allegations.
Olmert made clear through his aides that he was staying on. The furore surrounding the unpopular premier threatens to derail peace talks with the Palestinians.
Defence Minister Ehud Barak issued the call -- and raised the prospect of an early election -- a day after a U.S. businessman told an Israeli court how he had handed Olmert envelopes stuffed with thousands of dollars in cash.
"I do not think the prime minister can simultaneously run the government and deal with his own personal affair," said Barak, a former prime minister whose Labour party is Olmert's biggest partner in a fragile coalition government.
"Therefore, out of a sense of what is good for the country and in accordance with the proper norms, I think the prime minister must detach himself from the day-to-day running of the government," Barak told a news conference.
Olmert has denied wrongdoing in the case and his strategic adviser, Tal Silberstein, said the premier was staying.
"The prime minister was not considering resigning, nor taking a leave of absence, nor any of the other suggestions raised at that press conference (by Barak)," he said.
"I can tell you that the press conference changed nothing," Silberstein said on Israel's Channel 10 television. Olmert has ridden out similar storms since taking office in 2006 and Barak was hazy on what steps he might take, and when.
Barak also stopped short of action that would immediately bring down the government and trigger an election that could backfire on him. Polls suggest the right-wing Likud under Benjamin Netanyahu would defeat Labour.
Barak spelled out Olmert's options as "suspension, vacation or resignation or declaring himself incapacitated".
"We will not be the ones to determine this," he added.
A poll by Channel 2 television found 43 percent of Israelis wanted Olmert to take a leave of absence, 39 percent favoured resignation, and 13 percent backed him staying on.
"HOT AIR"
Commentators noted Barak took no action on demands he made last year for Olmert to go after the costly 2006 Lebanon war.
"We've seen this movie before," said Raviv Drucker, a political analyst. The left-wing Meretz party said Barak's latest comments were not a real ultimatum, only "hot air".
Barak put the onus on Olmert's centrist Kadima party to seek a new leader to replace him. Olmert has said the money he received from American Jewish financier Morris Talansky was legitimate campaign funding, but pledged to resign if indicted.
"If Kadima does not act and a government is not formed during this current session of parliament that is to our liking, we will act towards setting an agreed and early date for elections," Barak said. He urged the party to move "soon".
A parliamentary election is not due until 2010. A defection by Labour would almost certainly force an early ballot and disrupt a Middle East peace process that Barak supports.
Netanyahu is deeply sceptical of the peace talks with the Palestinians which Washington hopes can achieve a deal before President George W. Bush leaves office in January, as well as on recently disclosed indirect negotiations with Syria.
Palestinian President Mahmoud Abbas believes the crisis in Israel will hurt peace talks, his spokesman said.
Should Olmert, 62, step aside temporarily while prosecutors pursue the corruption case against him, Foreign Minister Tzipi Livni, as his deputy in Kadima and the cabinet, would almost certainly take over, for an interim period of 100 days.
Livni is the main negotiator with the Palestinians.
Talansky testified in open court on Tuesday that he gave Olmert $150,000 in cash-stuffed envelopes, including personal loans that were never repaid, over a 15-year period before the veteran politician became Israel's leader.
Talansky is due in court again in July when he will be cross-examined by Olmert's lawyers. (Editing by Robert Woodward)
