Iran said Iraq dropped chemical bombs on two villages and occupied three towns in western Iran Friday. Iraq claimed it recaptured the last land seized by Iran in the 8-year-old war.

U.N. officials prepared to mediate a cease-fire following Iran's acceptance of a U.N. cease-fire resolution passed one year ago. But Iran's revolutionary patriarch, Ayatollah Ruhollah Khomeini, urged Iranian Revolutionary Guards to continue fighting, Tehran radio reported.Iran's official Islamic Republic News Agency said in a report monitored in Nicosia that Iraqi forces occupied the Iranian border towns of Khosrawi, Qasr-e Shirin and Sar-e Pol Zahab in the central sector of the 730-mile front. The towns are about 110 miles northeast of the Iraqi capital of Baghdad, and Sar-e Pol Zahab is 12 miles from the border.

A military communique read over Iraqi television said Iraq "retook whatever was left of our land from the Iranians." Iraq identified the area as the Saif Saad region, a disputed territory that Iraq claims under the terms of a 1975 agreement between the two countries. It made no mention of chemical weapons, and denied Iran's report that 5,000 Iraqi soldiers died in the fighting.

Both sides frequently accuse the other of resorting to chemical weapons, banned internationally by the 1925 Geneva Conventions. Iraq has admitted using them, citing U.N. reports with evidence of use by both sides, while Iran denies their use.

Iranian President Ali Khamenei said the Iranian armed forces were supporting Khomeini's acceptance of the cease-fire despite their eagerness to "rub the enemy's nose in the dirt," the Islamic Republic News Agency said. Khamenei spoke at Friday prayer services in Tehran. He said Iraq had yet to respond "honestly" to the resolution.

U.N. spokesman Francois Giuliani said an eight-member team of military observers assembled in Jerusalem and Vienna will try to arrange a cease-fire and a second group being assembled in Geneva will look into prisoners of war. Both teams were expected to begin their trip to the Persian Gulf during the weekend.