Olmert said voluntary relocation of some of the estimated 260,000 Jewish settlers was part of US-backed final status talks relaunched last year.

"We will not bring the issue to a decision today," Olmert said. "But at a time when serious and continuing diplomatic negotiations are being held, it should be clear to everyone that they will likely at some [point] lead also to the need to make decisions that will entail the relocation of residents from the places in which they live.

"I think that it is good to begin thinking about these issues and to see how we can prepare for them properly."

Israel evicted 8,500 settlers from the Gaza Strip and four small West Bank
settlements in 2005. Many refused to plan for or co-operate with the operation.

Symbolic step

Jacky Rowland, Al Jazeera's correspondent in Jerusalem, said the discussion of compensation packages was "still at a very early stage".

"It refers, only at the moment, to the settlers living to the east of Israel's separation barrier.

"The plan looks at how to encourage people living in isolated settlements ... to leave peacefully and quietly rather than kicking and screaming as was the case with some of the settlers in Gaza three years ago.

"The number of people [that would be affected] is about 60,000 and there are about 250,000 Israeli settlers in the West Bank."

Under internatiionl law, settlers living west of the separation barrier are illegally living on occupied Palestinian land.

"Israel is making no attempt at all to hide its plans to hang on to those big settlement blocks under any peace deal," Rowland said.

Under the proposed bill, settlers willing to leave territory to be transferred to the Palestinians would receive payment from the government.

The bill is aimed at minimising friction and paving the way for a large pullback from the West Bank, which the Palestinians claim as part of a future independent state.

Proponents of the package say that up to half of the 70,000 residents of settlements expected to be evacuated would leave if they had the financial means.

Israel and the Palestinians have been holding formal US-backed peace talks since November 2007, aimed at resolving their decades-old conflict by the time George Bush, US president, leaves office in January 2009.

Mahmoud Abbas, the Palestinian president, who has been meeting Olmert on a fortnightly basis since the talks were relaunched, has repeatedly said the settlements are the greatest obstacle to reaching a deal.

The Jewish settlements in the occupied West Bank, including east Jerusalem, are illegal under international law.