Palestinians officials said that the continued expansion of Jewish settlements in east Jerusalem and the West Bank made it increasingly difficult to persuade their people that they should negotiate with Israel.
"We firmly condemn this project, which reveals the Israeli government's intention to destroy peace," Saeb Erekat, a senior Palestinian negotiator, said.
"The international community must make Israel stop its settlement activity if it wants to give peace negotiations a chance."Peace process
The peace process, which was resumed after a conference in the United States last year, calls on Israel to remove outposts and halt settlement activity, including so-called "natural growth" of those settlements.
On June 2, Israel announced plans to construct 884 apartments in another area of the city, prompting the White House to warn that building such settlements "exacerbates the tensions" with the Palestinians.
Palestinians hope to make east Jerualem, which was captured by Israel in the 1967 war and later annexed, the capital of any future state.
The United Nations does not recognise Israel's annexation of the area.
Mark Regev, an Israeli government spokesman, said: "Israel makes a clear distinction between Jerusalem and the West Bank."
About 180,000 Jews currently live in east Jerusalem, while another 270,000 live in settlements in the West Bank. Palestinians 'assaulted'
Meanwhile, an Israeli human rights group released a videotape which it said showed the beginning of an attack on Palestinian farmers by masked, stick-wielding Jewish settlers.
The footage, which was distributed by the B'Tselem group, shows four people with their faces hidden approaching the farmers near the Susia settlement outside Hebron in the West Bank.
One strikes a blow before the camera is dropped. B'Tselem said that the woman who was filming ran to get help.
The group has provided about 100 cameras to Palestinians in the past year in a project called 'Shooting Back' which attempts to document rights abuses in the West Bank.