(Adds AU mandate extended)

By Guled Mohamed

MOGADISHU, July 18 (Reuters) - A grenade attack in a Mogadishu market killed at least three people on Wednesday, a day before peace talks were due to resume in the volatile Somali capital.

The attack caused chaos at the Bakara Market, one of Africa's biggest arms markets. At least three people, including a Somali soldier, died after grenades were thrown at a patrol, witnesses said.

"It's total chaos here. Troops are shooting at anyone on sight," taxi driver Ali Adan told Reuters by telephone.

Four civilians were killed in a blast at the same market late on Tuesday.

Hoping to quell the bloodshed, the African Union (AU) extended the mandate of about 1,600 Ugandan peacekeepers in Somalia for a further six months on Wednesday.

Somalia's interim government wants a fully fledged U.N. force of 7,000 peacekeepers.

The latest violence in Mogadishu came a day before a much-anticipated peace meeting was due to resume in Mogadishu, where attacks by insurgents targeting government troops, their Ethiopian allies and Ugandan peacekeepers have become a daily feature of life.

Mortar blasts marred the opening of the meeting on Sunday, which organisers adjourned until Thursday, saying they were waiting for more delegates to arrive.

Mohamed Ali Nur, Somalia's envoy to Kenya, denied reports the violence caused the postponement of talks seen as the interim government's best hope to end 16 years of chaos.

"Some spoilers who don't want peace and good governance in Somalia are trying to spoil the conference ... we will continue," he told a news conference in Nairobi.

"We expect a good outcome."

PEACEKEEPERS

Since seizing Mogadishu from an Islamist movement in December with Ethiopian military help, the government has faced roadside bombings, assassination attempts on senior officials and suicide attacks.

In Addis Ababa, the AU's Peace and Security Council appealed for member states to deploy troops as quickly as possible. In a communique issued at the end of Wednesday's meeting, it also urged donors to provide funds and logistics.

As violence escalates around the sprawling Bakara market, traders are thinking of moving their wares to elsewhere in the bullet-riddled city of one million people.

"I have not sold anything this month," said shopkeeper Muse Abdi, a father of nine. "I have no option but to move my shop otherwise my kids will go hungry. I was optimistic when the government took over the city. It's so sad." (Additional reporting by Wangui Kanina in Nairobi, Francis Kwera in Kampala and Tsegaye Tadesse in Addis Ababa)

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