"My first choice of course is to solve this diplomatically. All options are all the table, but the first choice is to solve this problem by working closely together," said Bush after talks with German Chancellor Angela Merkel.

He expressed support for a European package of diplomatic and economic rewards -- put together by Berlin, London, and Paris -- if Iran's leaders halt uranium enrichment, which can be a key step towards making atomic weapons.

"We'll see what choice they make," he said, one day after the European Union agreed to crack down on Iranian banks.

"We'll give diplomacy a chance to work."

Merkel said diplomatic pressure had already shown signs of paying off, highlighted international cooperation in squeezing the Islamic republic and warned Tehran would face more sanctions if it rejects the incentives.

"If Iran does not meet its commitments, further sanctions will have to follow," she said.

Iranian President Mahmoud Ahmadinejad appeared unswayed.

"We will not trade our dignity with anything," the ISNA news agency quoted Ahmadinejad as saying, referring to the package. "If they want to give us something, then they should sell it and we will buy it."

EU foreign policy chief Javier Solana is to visit Tehran Saturday and Sunday in an effort to convince Iran to suspend its uranium enrichment activities.

Iran denies its nuclear programme hides an atomic weapons push and has made its own diplomatic overture -- which does not include halting uranium enrichment.

Bush met Merkel as part of his last tour of Europe before he steps down in January, a voyage that began in Slovenia Monday and takes him to Italy, the Vatican, France, and Britain.

The US president is still widely unpopular over the Iraq war that Germany, France and Russia fiercely opposed, as well as his resistance to European-favoured strategies for battling climate change.

"I hope that with regard to climate change we will take constructive steps forward in Japan" where the Group of Eight industrialized nations will meet in July, Merkel said after hosting Bush at a palace in Meseberg, a village north of Berlin.

Last year Merkel was credited with winning concessions from Bush on climate change at a G8 summit in Germany -- albeit non-binding pledges on the reduction of greenhouse gas emissions on which he has been accused of reneging.

Bush urged Germany to step up its commitments in Afghanistan, and said there was little he would have done differently in Iraq.

The unpopular president predicted that Washington and Baghdad would strike a deal on the long term presence of US forces in Iraq after the UN mandate lapses at the end of 2008.

But he angrily denounced "erroneous" news reports that he seeks permanent US military bases.

The White House has said it does not consider any US military bases in the world, except perhaps Guantanamo Bay, as permanent, because host countries could ask US forces to leave.

The talks came with much of Europe is waiting to see who takes over from Bush in January.

There were no anti-Bush demonstrations in Germany but several political officials in Berlin, including leading figures from Merkel's own conservative party, said he would not be missed.

"The disaster after the war in Iraq caused serious damage to the image of the United States, and not just in Germany," the foreign policy spokesman for the Christian Union's parliamentary group, Eckart von Klaeden, said.

In 2006, Bush and Merkel bonded over pickled herring and barbecued boar on Germany's Baltic coast and the chancellor has tried to strike a balance between rebuilding ties to Washington and reserving the right to criticise US policy.

This time Merkel, Bush and their spouses dined on asparagus and schnitzel with strawberries for dessert, and strolled together in the gardens of Meseberg Palace, an 18th-century baroque residence turned government guest house.

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