Israeli prime minister Benjamin Netanyahu gave ground today by conditionally accepting a US-backed goal of a Palestinian state, but dug in on settlements.
In his speech, Mr Netanyahu spoke for the first time of a Palestinian state but conditioned its establishment on Israel receiving in advance international guarantees the new nation would be demilitarised.
Palestinian officials did not rule that out, saying after Mr Netanyahu spoke that the issue would need to be settled in peace negotiations.
"If we receive this guarantee for demilitarisation and the security arrangements required by Israel, and if the Palestinians recognise Israel as the nation of the Jewish people, we will be prepared for a true peace agreement (and) to reach a solution of a demilitarised Palestinian state alongside the Jewish state," Mr Netanyahu said in a policy speech.
He also called on the leadership of the Palestinian Authority must defeat Hamas Islamists who reject interim peace accords.
"They must decide between the way of peace and the way of Hamas," Mr Netanyahu said. "The Palestinian Authority must impose law and order ... and overcome Hamas. Israel will not negotiate with terrorists trying to destroy it."
However, the speech was earlier dismissed by a spkesman for the Palestinian president.
"Netanyahu's remarks have sabotaged all initiatives, paralysed all efforts being made and challenges the Palestinian, Arab and American positions," said Nabil Abu Rdainah, noting Mr Netanyahu's demand that Jerusalem be the undivided capital of Israel and that Palestinian refugees not be allowed into Israel.
"This will not lead to complete and just peace," Mr Abu Rdainah said. "His remarks are not enough and will not lead to a solution."
US president Barack Obama's administration welcomed Mr Netanyahu's endorsement of a separate Palestinian state, calling it an "important step forward".
"The president welcomes the important step forward in Prime Minister Netanyahu's speech," White House spokesman Robert Gibbs said. "The president is committed to two states, a Jewish state of Israel and an independent Palestine, in the historic homeland of both peoples."
"He believes this solution can and must ensure both Israel's security and the fulfillment of the Palestinians' legitimate aspirations for a viable state, and he welcomes Prime Minister Netanyahu's endorsement of that goal."
Israeli political scientist Eitan Gilboa said Mr Netanyahu's statehood remarks could narrow a rare rift between Israel and the United States, its main ally.
"If (Obama) looks at the glass as half-full, this should be sufficient. But if he is looking for confrontation with Israel, he would say the glass if half-empty," Mr Gilboa said.
Citing Mr Netanyahu's refusal to soften his position on settlements, a senior European diplomat said of his speech: "It's goodwill and good words but I don't think it's going to appease the Americans.
"It doesn't change anything in practice," the diplomat added, noting that a two-state solution had been accepted by Mr Netanyahu's predecessors but went nowhere. "He's trying to gain time."
While calling for a renewal of peace talks, Mr Netanyahu made no offer to negotiate territorial issues. He declared Jerusalem would remain united as Israel's capital, drawing criticism from Palestinians who want to establish their capital in the city.
Another condition set by Mr Netanyahu - Palestinian recognition of Israel as a Jewish state - appeared to be a non-starter.
Palestinians fear such recognition would destroy chances for a return of Palestinian refugees to areas now inside Israel from which they fled or were forced to flee during the 1948 war that led to its creation.
Mr Netanyahu said in the speech, repeating long-standing Israeli policy, that Palestinian refugees should be resettled outside Israel. Israeli leaders have said in the past the refugees could find a new home in a future Palestine.
President Mahmoud Abbas's Palestinian Authority runs the Israeli-occupied West Bank but its Hamas opponents seized control of the Gaza Strip two years ago.
Agencies