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UPDATE 3-Iran, powers start talks on final nuclear deal, U.S., Iranians meet

* Outcome may be matter of war or peace in wider Middle East

* Enrichment capacity, Arak reactor to be key sticking points

* Vienna meeting seen as first of several rounds of talks

(Adds U.S. bilateral meeting, details on possible sticking points)

VIENNA, Feb 18 (Reuters) - Six world powers and Iran began talks on Tuesday in pursuit of a final settlement on Tehran's contested nuclear programme in coming months despite caveats from both sides that a breakthrough deal may prove impossible.

Senior U.S. and Iranian officials met separately for nearly 90 minutes on the sidelines of the negotiations in Vienna. Details were not given, but such bilateral talks were inconceivable before the 2013 election of Hassan Rouhani, a relative moderate, as president of Iran. U.S.-Iranian dialogue is seen as crucial to any breakthrough nuclear agreement.

"We're only at the very beginning of this process," a diplomat told Reuters on condition of anonymity after U.S. Under Secretary of State for Political Affairs Wendy Sherman's meeting with Iranian Deputy Foreign Minister Abbas Araqchi.

Sherman headed the U.S. delegation, while Iranian Foreign Minister Mohammad Javad Zarif and Araqchi led Tehran's negotiating team at the table with Britain, China, France, Germany, Russia and the United States.

Iranian Supreme Leader Ayatollah Ali Khamenei, the man with the final say on all matters of state in the Islamic Republic, declared again on Monday that talks between Tehran and six world powers "will not lead anywhere" - while also reiterating that he did not oppose the delicate diplomacy.

Hours later a senior U.S. administration official also tamped down expectations, telling reporters on Monday that it will be a "complicated, difficult and lengthy process" and "probably as likely that we won't get an agreement as it is that we will".

It is the first round of high-level negotiations since a Nov. 24 interim deal that, halting a decade-long slide towards outright conflict, has seen Tehran curb some nuclear activities for six months in return for limited relief from sanctions to allow time for a long-term agreement to be hammered out.

The stakes are huge. If successful, the negotiations could help defuse many years of hostility between Iran - an energy-exporting giant - and the West, ease the danger of a new war in the Middle East, transform power relationships in the region and open up vast new possibilities for Western businesses.

The talks - expected to last two or three days - began on Tuesday morning at the United Nations complex in Vienna. The venue was to shift later to a luxury city centre hotel where the chief negotiators were staying.

A spokesman for European Union foreign policy chief Catherine Ashton, overseeing the talks on the powers' behalf, said bilateral meetings between delegations were under way.

MODEST EXPECTATIONS FOR VIENNA TALKS

Araqchi sounded upbeat about the initial 40-minute discussions but appeared to draw a line against Tehran's ballistic missile programme being addressed in any future talks.

"We had good discussions ... and we are trying to set an agenda. If we can agree on an agenda in the next two to three days, it means we have taken the first step. And we will move forward based on that agenda," he said. "This agenda ... will be about Iran's nuclear programme and nothing else, nothing except Iran's nuclear activities can be discussed."

He was answering a question about Iran's ballistic missile work after U.S. officials said they want Tehran to accept limitations on any nuclear-capable missile technology as part of any long-term deal reached by Iran and the powers.

There may be other sticking points in the talks. Iran says it will not cede its "right" to install advanced centrifuges to refine uranium, signalling defiance in a manner that may irk the United States and its European allies.

Despite his public scepticism about chances for a lasting accord with the West, Khamenei made clear Tehran was committed to continuing the negotiations between Iran and the six powers.

"What our officials started will continue. We will not renege. I have no opposition," he told a crowd in the northern city of Tabriz on Monday to chants of "Death to America" - a standard reflexive refrain since the 1979 Islamic Revolution.

Western diplomats said it was difficult to predict the chances of getting an final agreement with Tehran over the next six months that would be acceptable to all sides. "The one thing we know is they want the sanctions to go away, which will work in our favour," a Western diplomat told Reuters.

During a decade of fitful dialogue with world powers, Iran has rejected allegations by Western countries that it is seeking a nuclear weapons capability. It says it is enriching uranium only for electricity generation and medical purposes.

Tehran has defied U.N. Security Council demands that it halt enrichment and other proliferation-sensitive activities, leading to a crippling web of U.S., EU and U.N. sanctions that has severely damaged the OPEC country's economy.

Khamenei's approval of serious negotiations with the six powers despite the scepticism he shares with hard-line conservative supporters, diplomats and analysts say, is driven by Iran's worsening economic conditions, analysts say.

Another major factor was the Iranians' overwhelming election last year of Rouhani, who is determined to relieve Tehran's international isolation based on "constructive interaction" with the West.

CURBING URANIUM ENRICHMENT

The goal of the talks for the United States and its European allies is to extend the time that Iran would need to produce enough fissile material for a viable nuclear weapon.

For that goal to be achieved, experts and diplomats say, Iran would have to limit enrichment to a low concentration of fissile purity, deactivate most of its centrifuges now devoted to such work, curb nuclear research to ensure it has solely civilian applications and submit to more intrusive monitoring by U.N. anti-proliferation inspectors.

Khamenei and other Iranian officials have often made clear that they could not accept any such cuts in nuclear capacities. The trick will be devising compromises that powerful hardline constituencies on both sides can live with.

Western governments appear to have given up on the idea, enshrined in a series of Security Council resolutions since 2006, that Iran should totally halt the most disputed aspects of its programme - all activities related to uranium enrichment at the underground Natanz and Fordow plants and production of plutonium at the planned Arak heavy water reactor.

Diplomats privately acknowledge that Iran's nuclear programme is now too far advanced, and too much a cornerstone of Iran's national pride, for it to agree to scrap it entirely.

But while Iran may keep a limited enrichment capacity, the West will insist on guarantees that mean any attempt to build a nuclear bomb would take long enough for it to be detected and stopped, possibly with military action.

Israel, which criticised the November deal as an "historic mistake" as it did not dismantle its arch-enemy's enrichment programme, made its position clear ahead of the Vienna talks.

"We are giving a chance for (a) diplomatic solution on condition that it provides a comprehensive and satisfactory solution that doesn't leave Iran with a nuclear breakout capability," Strategic Affairs Minister Yuval Steinitz said.

"In other words, that it doesn't leave (Iran) with a system by which to enrich uranium by means of centrifuges, nor any other capabilities that would permit it to remain close to a bomb," Steinitz he told Israeli radio.

While cautioning the talks will take time, the U.S. official said Washington does not want them to run beyond a six-month deadline agreed in November. The late July deadline can be extended for another half year by mutual consent.

(Additional reporting by Justyna Pawlak and Fredrik Dahl in Vienna, Allyn Fisher in Jerusalem; Editing by Mark Heinrich)