TEHRAN (Reuters) - Iran rejected on Wednesday U.S. accusations it was fomenting instability in Iraq, a day after President George W. Bush said Tehran’s atomic ambitions could put the Middle East “under the shadow of a nuclear holocaust.”

Iran's Foreign Ministry spokesman Mohammad Ali Hosseini speaks to journalists during a news conference in Tehran February 12, 2007. Iran rejected on Wednesday accusations by U.S. President George W. Bush that Tehran was fomenting instability in Iraq, and called on Washington to change its policies in the region. REUTERS/Raheb Homavandi

The two old foes are embroiled in a standoff over Iran’s disputed nuclear program, which the West suspects is aimed at developing weapons but the Islamic state says is peaceful. They also blame each other for the bloodshed in Iraq.

In a further sign of growing tension, U.S. forces in Iraq said they had detained eight Iranians overnight and seized a suitcase full of money from their central Baghdad hotel but later freed them after consultations with the Iraqi government.

Iran’s Foreign Ministry reacted angrily to the incident in the Iraqi capital, summoning the Swiss charge d’affaires to voice “harsh objections,” Iranian state television said.

A media adviser to Iraqi Prime Minister Nuri al-Maliki said the men had been members of an Iranian delegation invited to Iraq by the Ministry of Electricity to discuss construction of a new power plant.

The United States severed ties with Iran shortly after the 1979 Islamic revolution and the Swiss embassy represents its interests in the country.

U.S. officials have often accused Iran of supplying weapons to insurgents in Iraq, but in a speech on Tuesday Bush hardened his stance by lumping Tehran and al Qaeda together.

“Iran has long been a source of trouble in the region. It is the world’s leading state sponsor of terrorism,” Bush said.

“And Iran’s active pursuit of technology that could lead to nuclear weapons threatens to put a region already known for instability and violence under the shadow of a nuclear holocaust,” he told a gathering of veterans in Reno, Nevada.

Bush’s verbal attack on Iran came just hours after Iranian President Mahmoud Ahmadinejad said the power of the United States was rapidly collapsing in Iraq and that Tehran was ready to step in to help fill the vacuum.

U.S. PATH “NOT FRUITFUL”

With 164,000 U.S. troops in Iraq and patience growing thin in the Democratic-controlled U.S. Congress and the American public, Bush has been defending his Iraq war strategy.

A report by the U.S. commander on the ground in Iraq, Gen. David Petraeus, and the U.S. ambassador to Iraq, Ryan Crocker, due by September 15, could trigger a change in Iraq policy.

Bush warned that extremist forces would be emboldened if the United States were driven out of the region, leaving Iran to pursue a nuclear weapon and set off an arms race.

He said U.S. forces had recently seized Iran-made rockets and that attacks on American bases and troops in Iraq with Iran-supplied weapons had increased in the past few months.

“Iran’s actions threaten the security of nations everywhere. And that is why the United States is rallying friends and allies around the world to isolate the regime, to impose economic sanctions. We will confront this danger before it is too late.”

He added: “I have authorized our military commanders in Iraq to confront Tehran’s murderous activities.”

The U.N. Security Council has imposed two rounds of sanctions on Iran since December over its refusal to halt sensitive nuclear work and Washington has made clear it will be pushing for more punitive measures against Tehran.

Asked about the U.S. accusations, the Iranian Foreign Ministry spokesman told Reuters: “They are not true.”

Spokesman Mohammad Ali Hosseini did not specifically comment on Bush’s remarks on the nuclear issue, but Iran has repeatedly said its activities are solely aimed at generating electricity.

Hosseini said the U.S. path was neither “useful or fruitful”, adding: “It is better for him (Bush) to change his point of view and political decisions.”