The British Embassy here suspended operations today following a week of demonstrations outside its gates to protest the detenation of Iranian student demonstrators in London.

Meanwhile, Iranian authorities confirmed that British journalist Tony Allaway, Tehran correspondent for the Times of London and Sunday Times, had been held in prison for the past three days on suspicion of espionage. Allaway, 30, is married to an Iranian woman and has a daughter. Three other British subjects have been arrested recently in Iran, apparently on spying charges.

The embassy was closed to the public and only a skeleton staff, including Charge d'Affaires Arthur Wyatt, remained in the compound. Wyatt said seven staff members and four dependents had left since yesterday. Four other staff members remained.

"Given the continuation of the demonstrations, we thought we would close down today," Wyatt said. "As soon as the situation calms down and reverts to normal, we will resume operations. We will look at it on a day-to-day basis."

Several dozen protesters have been camped outside the embassy since Aug. 10, demanding the release of 60 students arrested in London Aug. 4 during demonstrations outside the American Embassy. At times last week the crowds swelled into the hundreds and thousands while speakers denounced the "fascist English police."

There have been no reports of violence or attempts to break into the embassy.

In another development, Iran broke diplomatic relations with Chile yesterday, citing "basic differences of principle" between the two nations' political systems. A Chilean Foreign Ministry statement responded, "Chile does not lose anything with this Iranian action because no economic or political interests of any significance are compromised."