(Adds Israeli officials in paragraph 3)

JERUSALEM, March 31 (Reuters) - Prime Minister Ehud Olmert played down the chances of expanded Israeli military action for now in the Gaza Strip to counter Hamas's military build-up but said the army would be prepared to act if other options failed.

Israeli and U.S. security officials say Hamas's forces are expanding faster and receiving more sophisticated weapons and training than those under Palestinian President Mahmoud Abbas's control.

Israeli security sources estimate that Hamas now has about 10,000 militants, and say that the Islamic militant group's armed wing has been busy digging tunnels and upgrading its rocket arsenal for a possible confrontation.

"We won't be deterred from using military activity if we come to the conclusion, after an intense, level-headed examination, that there is no better way... But that is not the situation (currently)," Olmert told Israel's Channel 2 television in an interview aired on Saturday.

Israel and the United States said Hamas was receiving money and equipment from Iran. Washington plans to provide $59 million to bolster Abbas's presidential guard.

"The question is: Does it have to be military activity? If it has to be military activity by us, does it have to be right now?" Olmert said when asked about warnings by top security advisers about Hamas's build-up.

Abu Ubaida, a spokesman for Hamas's armed wing, said the Islamic militant group would be ready for any conflict with Israel.

"Raiding Gaza will not be that easy and they will be surprised of the tactics we will use," Abu Ubaida told Reuters at one of Hamas's training camps as militants practiced firing rocket-propelled grenades and automatic weapons.

In an interview with Time magazine released on Friday, Olmert called Palestinian Prime Minister Ismail Haniyeh of Hamas a "terrorist" and accused him of recently transferring more than $1 million to militants to carry out attacks against Israel.

"This is a medal of honour to the prime minister," Abu Ubaida said of Olmert's accusations. "The prime minister was born from the womb of resistance and therefore, he should stand beside the resistance and he should resist these pressures."

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