After five years of intense negotiation, Indians and the political establishment in Arizona have reached an agreement on a long-standing water dispute that threatened to paralyze development in the southern part of the state.

Supporters of the recently concluded pact, which requires congressional approval because federal money is involved, say it marks the first time a wide assortment of competing special interests--farmers, miners, municipalities and Indians--have agreed on a detailed compromise on ground water supplies, avoiding costly litigation. They say the pact could serve as a model for other western areas facing similar water problems.

"It's a landmark decision for Indian tribes, to negotiate a settlement among ourselves without it being a court decision," said Gene Cronk, director of the Tucson Water District.

Rep. Morris K. Udall (D-Ariz.), whose staff helped mediate the dispute and who introduced the settlement bill in the House of Representatives, said the bill "will help us to ensure the water future of southern Arizona."

The water wrangle centers on dwindling ground water supplies, which form the only source of water for cities, miners and farmers in the southern part of the state. The dispute raises an issue classic to past water disagreements in the West: Should the voracious water needs of a booming area economy be allowed to dwarf the competing interests of a relatively small, agricultural-based Indian tribe?

The Indians argued that off-reservation pumping adjacent to a reservation caused wells to dry up and their economy to wither. "The city put 20 wells right up against the reservation," said William Strickland, the attorney for the Papago Indian tribe, whose reservations are the focus of the dispute. "They knew what they were doing, and they were pumping like crazy. All of a sudden, the reservation wells go dry."

Strickland said that since pumping from the 20 wells began, cotton, wheat and alfalfa acreage on the two Papago reservations at San Xavier and Sells in Pima County near Tucson has shrunk from 1,700 acres to 800.

The new agreement will guarantee the Papagos a water supply. It requires the Interior secretary to deliver 37,800 acre-feet of water from the Central Arizona Project--a massive multibillion-dollar water diversion pipeline scheduled to deliver Colorado River water to Phoenix and Tucson by mid-decade--to the reservations within 10 years. An additional 28,200 acre-feet would be made available to the Indians from reclaimed water sources.

The settlement, called the "Southern Arizona Water Rights Settlement Act," also provides for an extension of reservation irrigation systems, the development of a water management plan and the establishment of a $15 million water trust fund.

The measure was passed by the House in early March, 311 to 50. It will be presented for hearing Wednesday before the Senate Select Committee on Indian Affairs. The committee will be chaired by Sen. Dennis DeConcini (D-Ariz.) and Sen. Barry Goldwater (R-Ariz.), who both support the measure.

But the bill has attracted some opposition. The Congressional Budget Office estimates the agreement will cost the taxpayers $96 million between 1983 and 1987. That figure, however, was sharply disputed by Jim Magner, a DeConcini staff assistant.

Magner said cost estimates "are quite soft" because different systems were used to figure costs in the Senate and House versions of the bill. He said the House measure contains costs associated with the Central Arizona Project--from which much of the Papago water will come--while the Senate version does not.

Magner was unable to precisely estimate the water settlement cost because it is still being computed. But he predicted it will be well below that advanced by congressional budget officials.

Staff members for DeConcini and Udall say they plan, in their arguments for the measure, to emphasize the money the federal government will save by avoiding what could have become an expensive, decades-long court battle. The federal government sued off-reservation water pumpers on behalf of the Papagos in 1975, and all sides agree that action helped spur the settlement. An amended complaint lists 1,800 defendants--virtually every major water user in southern Arizona.

Under the agreement, the tribe will dismiss its legal action, limit its ground water pumping and give up claims to additional water in Pima County, which includes Tucson.

Cronk said the Papago suit placed "a cloud on the future" of development in the area. "We had the litigation standing over our heads. Every time you have a situation like that, your future's in doubt." But Cronk and other officials think the agreement, if approved by Congress, will end the dispute.

The water battle was particularly acute because ground water levels in the area have been falling at an alarming rate, and Tucson and the surrounding areas are totally dependent on ground water supplies. Cronk estimates the underground water level has dropped two to 10 feet per year.

Officials are touting the Central Arizona Project and a rigid conservation program as solutions to the problem. But large cracks in the earth caused by continued underground pumping already have appeared in the area.