* Ukraine celebrates independence from Soviet rule
* Military parade in Kiev a show of defiance to Moscow
* Eastern rebels counter with parade of prisoners of war
* Russian, Ukrainian leaders to meet for talks next week (Updates with Merkel, EU comments)
By Richard Balmforth and Thomas Grove
KIEV/DONETSK, Ukraine, Aug 24 (Reuters) - Ukraine marked its independence day on Sunday with a military march-past in Kiev intended to send a message of defiance to Russia, but pro-Moscow rebels countered by parading captured Ukrainian troops through the streets of their main stronghold.
The rival events highlighted the divide that will have to be bridged if a compromise on Ukraine is to be reached on Tuesday when Russian President Vladimir Putin meets his Ukrainian counterpart Petro Poroshenko for the first time in months.
German Chancellor Angela Merkel, who visited Kiev on Saturday to try to lay the ground-work for a peace deal, said Tuesday's talks were unlikely to produce a breakthrough.
Kiev's forces are trying to crush a pro-Moscow separatist revolt in the east of Ukraine, and on Sunday intense artillery fire could be heard around the main rebel bastion of Donetsk.
On Independence Square in the Ukrainian capital Kiev -- scene of protests that pushed out a Moscow-backed president in February and precipitated the current crisis -- President Poroshenko reviewed columns of men and armoured vehicles.
Some of the troops in the march-past were shortly heading to the front line in eastern Ukraine, Poroshenko said.
In an emotional speech, he said his country was fighting "a war against external aggression, for Ukraine, for its freedom, for its people, for independence".
"It is clear that in the foreseeable future, unfortunately, a constant military threat will hang over Ukraine. And we need to learn not only to live with this, but also to be always prepared to defend the independence of our country," he said.
Poroshenko announced about $3 billion would be spent on re-equipping the army in 2015-2017. Ukraine's armed forces are only a fraction of the size of those in Russia.
After Ukraine's previous president, Viktor Yanukovich, fled to Russia, Moscow annexed Ukraine's Crimea peninsula in March and parts of the Russian-speaking east rebelled against Kiev.
Kiev and its Western allies accuse Moscow of funnelling weapons and men secretly into eastern Ukraine to shore up the struggling rebellion, a claim Moscow denies. Russia has called for an urgent ceasefire to provide help to trapped civilians.
In separatist-held Donetsk, about 100 people introduced over a public address system as Ukrainian prisoners-of-war were marched through the city's central Lenin Square on Sunday.
They looked dirty and unshaven and bowed their heads as they passed. Some had bandaged arms and heads. They were guarded by rebel fighters with guns, their bayonets fixed.
People who came to watch the parade shouted "fascists!" and "murderers!" and some threw bottles at the POWs. Two street-cleaning machines followed the column, spraying water on to the street in a theatrical gesture to indicate the men were unclean.
Earlier on Sunday, artillery shells hit the grounds of one of Donetsk's biggest hospitals. Authorities in Kiev deny targeting civilian areas.
"This is no independence day. This is a plague on our land, the fascists who have taken control of Kiev who are now shooting at hospitals and morgues," said Grigory, 71, at a display of captured military hardware in central Donetsk.
Diplomats say Tuesday's meeting between Putin and Poroshenko in the Belarussian capital Minsk may provide the best chance yet of ending a conflict that has left ties between Moscow and the West at their most toxic since the Cold War and has sparked sanctions that are hurting the Russian and European economies.
The two presidents last met in June in a frosty encounter in Normandy, France, at commemorations to mark the World War Two D-Day landings. They did not shake hands. Since then, the momentum in the conflict has tilted in Ukraine's favour.
With strong Western backing and progress on the battlefield, Kiev is now in a much stronger position. Putin, meanwhile, faces the stark choice of a humiliating defeat for the rebels or giving them direct help and so risking further sanctions that will inflict deeper pain on his economy.
The meeting in Minsk "certainly won't result in a breakthrough," Merkel told Germany's ARD television. "But you have to talk to each other if you want to find solutions."
The European Union's chief diplomat, Catherine Ashton, will be at the meeting to help mediate. On Sunday, Ashton said the meeting provided "an opportunity we should not miss".
The sound of shelling in Donetsk on Sunday was unusually intense, with rebels saying the Ukrainian troops were trying to score a victory to mark their national day.
Separatist commanders said they were holding off the attacks and were launching their own counter-assaults.
Alexander Zakharchenko, prime minister of the self-proclaimed 'Donetsk People's Republic', said his forces had launched a counter-attack and were fighting to take the town of Olenivka, about 20 km (12 miles) south of Donetsk.
"I don't want to fight, I don't want to kill anyone, but I will fight to the last for my land," he told reporters. "We want to live the way we want to live on our own soil."
The Ukrainian military authorities said they had been making more advances on the battlefield, though the rebel collapse some in Kiev had predicted has not materialised.
Ukraine's border guard service said there had been several rounds of shelling into Ukraine from Russian artillery units, echoing similar allegations made by NATO officials.
Officials in Kiev said 722 people with Ukrainian government forces had died to date, a jump from 568 announced on Aug. 11. (Additional reporting by Natalia Zinets; and Alessandra Prentice in Kiev, Michael Shields in Vienna, Madeline Chambers in Berlin, Anton Zverev and Maria Tsvetkova in Donetsk, Ukraine, and Polina Devitt in Moscow; Writing by Christian Lowe; Editing by Gareth Jones)