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* FCA withdraws merger proposal, blames French politics
* French official asked FCA to reconsider - source
* France's Le Maire says wanted to have Nissan support
* Renault shares fall around 7%, FCA recoups early losses (Adds more source comments, Renault statement, updates shares)
PARIS/MILAN, June 6 (Reuters) - France was battling to defend its business strategy on Thursday after being blamed for scuppering a $35 billion-plus merger between carmakers Fiat Chrysler (FCA) and Renault only 10 days after the plan was officially announced.
Shares in Italian-American FCA and France's Renault fell sharply in early trade after FCA pulled out of talks, saying "the political conditions in France do not currently exist for such a combination to proceed successfully."
The collapse of the deal, which would have created the world's third-biggest carmaker behind Japan's Toyota and Germany's Volkswagen, revives questions about how both FCA and Renault will meet the challenges of costly investments in electric and self-driving cars on their own.
The French government, which has a 15% stake in Renault, had welcomed the merger plan, but overplayed its hand by pushing for a series of guarantees and concessions that eventually exhausted the patience of FCA, sources familiar with the talks said.
Wrong-footed by FCA's decision to withdraw its merger proposal late on Wednesday, a French official called FCA Chairman John Elkann early on Thursday to see if he might reconsider, but was rebuffed, one of the sources said.
While France has a long history of government interference in business, President Emmanuel Macron came to power promising a broadly market-friendly agenda. The failure of the FCA deal risks leaving Renault locked into Europe's stagnant mass-market for cars, and deterring other potential suitors, analysts said.
French finance minister Bruno Le Maire said on Thursday the government had engaged constructively, but had not been prepared to back a deal without the endorsement of Renault's current alliance partner Nissan.
Nissan had said it would abstain at a Renault board meeting to vote on the merger proposal.
The merger had aimed to achieve 5 billion euros ($5.6 billion) in annual synergies, with FCA gaining access to Renault's superior electric drive technology and the French firm getting a share of FCA's lucrative Jeep and RAM brands.
Achieving the planned 5 billion euros in FCA-Renault synergies would depend partly on access to technology jointly owned by Nissan, executives had said.
However, a source close to FCA played down the significance of Nissan's stance in the discussions and blamed the French government for succumbing to political pressure at home.
The FCA-Renault talks were conducted against the backdrop of a French public outcry over 1,044 layoffs at a General Electric factory. The U.S. company had promised to safeguard jobs there when it acquired France's Alstom in 2015.
FCA has long been looking for a merger partner, and some analysts say its search for a deal is becoming more urgent as it is ill-prepared for tougher new regulations on emissions. It previously held unsuccessful talks with Peugeot maker PSA Group , in which the French state also owns a stake.
French budget minister Gerald Darmanin said the door should not be closed on the possibility of a deal with Renault, adding Paris would be happy to re-examine any new proposal from FCA.
"Talks could resume at some time in the future," he told FranceInfo radio.
However, Evercore ISI analysts said the chances of a deal had "materially fallen."
Renault said in a statement it was disappointed not to be able to pursue the merger, but that FCA's interest highlighted the attractiveness of the company and its alliance with Nissan.
The collapse of the deal could further fray relations between Renault and Nissan, already strained by the arrest and ouster of alliance chairman Carlos Ghosn, who is now facing trial in Japan on financial misconduct charges he denies.
Nissan, which is 43% owned by Renault and has recently rebuffed a full merger proposal from its French partner, was blindsided by the FCA-Renault tie-up plan and said it would require a fundamental review of its relationship with Renault.
"How can we support the deal?" said a Nissan management source soon before the talks collapsed. "We werent at the table, so we havent had time to evaluate its impact on Nissan and the alliance."
The deal's failure could also add to financial markets' frustration with France.
"With FCA pulling its merger offer, one has to wonder how much the French state is set on limiting Renaults strategic and valuation opportunities despite having only a 15% stake," analysts at brokerage Jefferies wrote in a note to clients.
At 1210 GMT, Renault shares were down 6.3% at 52.67 euros, while FCA shares in Milan had recovered early losses to trade up 0.1% at 11.79 euros.
PSA shares were up 1.9%, as some analysts speculated it could again be targetted by FCA.
But one banker who has worked on several FCA and car industry deals in the past said: "There are few alternatives available for FCA, I think theyll try again with Renault."
The collapse of the FCA-Renault deal also followed days of bickering between France and Italy over Paris's demands.
"When politicians try to intervene in economic matters, it doesn't always help. I won't comment further, if FCA withdrew its offer it's because it didn't see an economic advantage, or other type of advantage," Deputy Prime Minister and 5-Star leader Luigi Di Maio told Italian state radio on Thursday. ($1 = 0.8911 euros)
(Reporting by Laurence Frost and Sudip Kar-Gupta in Paris; Silvia Aloisi and Giulio Piovaccari in Milan; Arnos Schuetze in Frankfurt and Pamela Barbaglia; Editing by Mark Potter and Keith Weir)