PRESIDENT BUSH last night said that a negotiated agreement could still be reached with Iran over its controversial nuclear programme.

But he warned Tehran that it faced sanctions if it ignored the international community.

In a day of diplomatic brinkmanship, there were still hopes last night that Mahmoud Ahmadinejad, the newly elected hardline Iranian leader, might yet reach agreement with the West that could avoid a damaging showdown.

Today the 35 members of the International Atomic Energy Agency’s board will hold their second day of crisis talks aimed at allowing Iran to build a civilian nuclear programme, while offering guarantees to the West that the nation is not trying secretly to build an atomic bomb. On Monday Iran unilaterally revoked a commitment made last year in Paris to freeze work at sites where uranium is converted and enriched. The element can be used either as fuel for atomic reactors or to build warheads for nuclear bombs. Under the order of Mr Ahmadinejad, who had earlier rejected a compromise package from Britain, France and Germany, conversion work resumed at the Isfahan complex.

Yesterday the Iranian leader said that he had taken the action because the European offer was an “insult to the Iranian nation” and that his country was fed up with “being left out in the cold by the Europeans”.

The President, who won a landslide victory at the polls in June, said: “They talked to us as if the Iranian nation was suffering from backwardness and the time was 100 years ago and our country was their colony.”

While the defiant tone will certainly play well with his public, Mr Ahmadinejad did not close the door on future talks, a classic tactic employed by Iranian negotiators during the past two years of tortuous diplomatic contacts.

“I have new initiatives and proposals which I will present after my government takes office,” he said.

President Bush, who is on holiday at his ranch in Crawford, Texas, responded cautiously. Washington has long advocated punishing Iran with sanctions at the UN unless it abandons its nuclear programme. But the Bush Administration wants to maintain as much international support as possible and is prepared to allow the European diplomatic efforts to continue.

“Just as I was walking here, I received word that the new President said he was willing to get back to the table,” Mr Bush said. Mr Bush called on the Europeans to renew diplomatic efforts and convince the Iranians to give up their nuclear ambitions. But he said that he remained “deeply suspicious” of Iran and that if it failed to co-operate UN sanctions were “a potential consequence”.

“We’ll work with our friends on steps forward, on ways to deal with the Iranians if they so choose to ignore the demands of the world,” he said.

The IAEA is expected to give Iran a new ultimatum as diplomats search for a compromise and negotiate with the new Iranian Government, which includes Ali Larijani, the tough new nuclear supremo.

“I hope that this is simply a hiccup in the process and not a permanent rupture,” Mohamed ElBaradei, the director-general of the IAEA, said.

Gerhard Schröder, the German Chancellor, said: “I don’t see any option other than negotiations.”

Philippe Douste-Blazy, the French Foreign Minister, said: “It is still possible to negotiate with Iran. We are still holding out our hand.”

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