A senior Defence Ministry official confirmed the plot on Tuesday and said the 421 al-Qaida fighters involved were actually recruited to storm the US and British embassies and take hostages.
Several ranking Defence Ministry officials have been jailed in the plot, the official said on condition of anonymity because of the sensitivity of the information.
Bayan Jabr, the interior minister, in an exclusive interview with The Associated Press, said the al-Qaida recruits were one bureaucrat's signature away from acceptance into an Iraqi army battalion whose job is to control the gates and main squares in the Green Zone, home to the US and other foreign embassies as well as the Iraqi government.
The plot was discovered three weeks ago.
"You can imagine what could happen to a minister or an ambassador while passing through these gates when those terrorists are there," Jabr said in the interview conducted at his office inside the Green Zone - a three square kilometre hunk of prime Baghdad real estate on the west bank of the Tigris River.
The area is a maze of concrete blast walls, concertina wire and checkpoints.
In Washington, Donald Rumsfeld, the US defence secretary, said he was aware of the incident.
"I've heard about the report. I've not received anything definitive," he said, noting that initial reports often change.
"I don't know that I'd say we've learned anything at least at this stage that would suggest any important lesson.
"We've always known that there are people who've tried to infiltrate the various security forces and get to close access to places they ought not to be. There's nothing new about that that I know of," Rumsfeld said.
Al-Qaida recruits had reportedly
planned to capture diplomats
Jabr confirmed that a number of Defence Ministry officials had been jailed after the plot was discovered.
The Defence Ministry official said some of them had forged the signature of the Saadoun al-Dulaimi, the defence minister, on behalf of the terrorists.
The Defence Ministry official said the plot was uncovered by the military intelligence and the government's General Intelligence Service, which said the al-Qaida recruits planned to take US and British diplomats hostage then demand withdrawal of US and British troops.
The Defence Ministry was carrying out operations to capture the would-be recruits, both men said.
"Most of them were members of the same tribe and came from the same area," Jabr said but refused to give specifics because of the ongoing operation.
Neither Jabr nor the Defence Ministry official would give details on any arrests.
"The 421 were supposed to be in control of the entrances to the Green Zone and internal squares. I mean they were going to be in charge of security in the Green Zone in the future," Jabr told AP. "They were going to carry out operations. Most of them are wanted terrorists" using false identification.
Jabr's disclosure of the foiled plot, which could have been seen as a political ploy to divert criticism, was confirmed by the top Defence Ministry official, a Sunni, who described it in even more dramatic terms.
On other matters, Jabr told AP:
Kidnapped Christian Science Monitor reporter Jill Carroll was still alive and being moved from place to place by her captors. He would say nothing more about the case.
Jabr said Jill Carroll was still alive
He blamed much of today's chaos in Iraq to former US administrator Paul Bremer's decision in May 2003 to disband the army and security forces.
He did not expect a civil war in the country.
The government security apparatus, within two months, would begin attempting to absorb all the country's independent militia forces - except for the Mahdi Army of Shia leader Muqtada al-Sadr.
"We must think of another solution for them," Jabr said.