He had hoped Labour's second victory would encourage the government to reclaim the principles it had abandoned.
And he called for party members to "rise up" to restore Labour's values.
Speaking on BBC Radio 5 Live on Sunday, Lord Hattersley said the party had moved 180 degrees since he was deputy leader between 1983 to 1992.
Lord Hattersley, one of the party's most senior members, said he felt he was with a party he no longer agreed with - although he would never consider leaving.
He said policies on comprehensive schools, attacks on civil liberties, the privatisation of air traffic control, and the introduction of private investment into public services were among those to which he objected.
Lord Hattersley said Mr Blair was building a meritocracy, which he said was not a form of society he wanted to see - as it formed only shifting patterns of inequality.
He said people who cannot work or do not work were worse off since his party came to power four years ago.
He had hoped Labour's second victory would encourage the government to reclaim the principles it had abandoned.
But he said success had emboldened the prime minister to move further to the right.
Lord Hattersley wrote: "One by one the policies which define our philosophy have been rejected by the prime minister.
"The prime minister's adoption of what is essentially a free-for-all philosophy presents party members with a desperate choice.
"We could resign or we could sulk in our tents. Or, believing that the party does not belong to Tony Blair, we could rise up against the coup d'etat which overthrew the legitimate philosophy."
But he insisted he was attacking policies, not personalities.
Clive Soley, chairman of the Parliamentary Labour Party and considered an ally of Mr Blair, said: "Roy is unfortunately out of touch with the opinions of the majority of members of the Labour Party.
"What he has said is way over the top."
But a Labour party spokesman said: "The expression of different points of view is an essential part of Labour's internal democracy.
"Lord Hattersley is entitled to his views, which are well known.'
The comments come as several unions are gearing up to oppose the government's plans to use the private sector to reform public services.
Lord Hattersley was MP for Sparkbrook in Birmingham for 23 years, retiring in the 1997 general election after which he was made a life peer.
He is now an author and newspaper columnist.