* Iran’s disputed election exposes rifts in political elite
* System will use force to quell protests if they continue
* Internal disarray will delay response to Obama overtures
By Alistair Lyon, Special Correspondent
BEIRUT, June 16 (Reuters) - Iran’s disputed election has exposed rifts in a political and religious elite facing its gravest internal challenge since the 1979 Islamic revolution, but the system is likely to survive, by fair means or foul.
"This is a critical point that will decide whether Iran can move a little bit more towards democracy or whether it will be brutally turned back to a sort of Islamic dictatorship," said Udo Steinbach, a Berlin-based Middle East scholar.
Friday’s presidential vote, which saw Mahmoud Ahmadinejad re-elected by a startlingly wide margin over his reformist rival Mirhossein Mousavi, has unleashed fierce street protests from Iranians who believe the authorities fixed the result.
Discord within the ruling system in the world’s fifth biggest oil exporter has never been so public. "It’s the first time it is so out in the open. Before it took place behind closed doors," said a Western diplomat in Tehran.
The Mousavi camp is backed by traditional establishment figures, such as former presidents Akbar Hashemi Rafsanjani and Mohammad Khatami, concerned about how Ahmadinejad’s truculent foreign policy and populist economics are shaping Iran’s future.
The president has not hesitated to attack them as figureheads of a corrupt class that has parlayed its past service to the revolution into acquiring wealth and privilege at the expense of Iran’s devout poor in the countryside and city slums.
Supreme Leader Ayatollah Ali Khamenei, supposedly above the political fray, has favoured Ahmadinejad, who is also supported by the elite Revolutionary Guard and religious Basij militia.
Khamenei is ideologically more attuned to the president’s hostility to the United States than to the reformists’ talk of democracy and desire to mend fences with the West, even if they too defend a nuclear programme that Iran insists is peaceful.
NO RESPONSE TO OBAMA?
Iran’s internal disarray will complicate any response to U.S. President Barack Obama’s attempt to open a dialogue aimed at persuading the Islamic republic to make nuclear concessions in return for diplomatic and economic rewards.
"The Obama administration’s opening to Iran will probably go unanswered -- not because of any real enthusiasm in Iran for moving toward a nuclear weapons programme, but because the power struggle within Iran’s political elite will prevent anyone from seriously negotiating with Washington," said a PFC Energy note.
Ebrahim Yazdi, leader of a banned opposition party in Iran, told Reuters the election furore had deepened divisions among the "personalities of the revolution" and between the people and the government. "It is the biggest crisis since the revolution."
Another Iranian analyst, who asked not to be named, said an "open fight" had erupted between Ahmadinejad and Rafsanjani, which had united most establishment figures, including Khatami and parliament speaker Ali Larijani, against the president.
Ahmadinejad’s foes in the political elite differed among themselves on many issues, but all believed his foreign policy had worsened Iran’s isolation, the analyst said.
Khamenei, perhaps taken aback at the scale of post-election dissent, has now authorised the 12-man appointed Guardian Council to oversee a partial recount, but this is unlikely to overturn a result he has already publicly endorsed.
"Despite the rising din of protest, the contested results of Iran’s election will most likely be confirmed and the political system will probably consolidate around Khamenei," wrote Cliff Kupchan of the Eurasia Group political risk consultancy.
SONS OF THE SYSTEM
Like Khatami before him, Mousavi has long served the system of Islamic rule and would be loathe to let the protests reach the point where it was put into question, Steinbach said.
"But if it is going to escalate and become violent, with people going to the streets, the regime will brutally crack down on them using all the means they have," he added.
Mousavi, a former prime minister, scrapped plans for another rally on Tuesday to "protect the lives" of his supporters after seven people were killed the day before. Ahmadinejad partisans had called a counter-demonstration in the same Tehran square.
Ahmadinejad, who has compared the protesters to the disgruntled supporters of a losing soccer team, has denied any fraud in what he called a "clean and healthy" election.
But Iran’s reputation for lively, if strictly limited, democracy is likely to be tainted -- and large swathes of society alienated -- by the perceptions of electoral fraud.
Steinbach argued that pro-Mousavi supporters were expressing more than political frustrations, with many young people unable to find jobs, even those with university qualifications.
"They are looking for a better alternative to Ahmadinejad, who is blamed for running down Iran economically and socially," he said. "There is a frustration with the economic situation."
PFC Energy’s note suggested that Khamenei had wanted Mousavi to lose, but was not totally comfortable with Ahmadinejad’s win, while his move to let the Guardian Council probe alleged voting irregularities was an attempt to protect state legitimacy.
However, if Ahmadinejad’s powers were not curbed, he would pursue expansionary policies and subsidies that stoke inflation.
"When the failures of those economic policies become evident ... he is likely to launch a severe scapegoating campaign," the note added. "He will target not just reformists, and not only Rafsanjani, but the rich and the urban middle classes generally. (Additional reporting by Parisa Hafezi and Fredrik Dahl in Tehran; editing by Samia Nakhoul)