Jerusalem, which the Palestinians want as a joint capital for a future state, has been a particular point of focus for delegates.
Ban Ki-moon, the UN secretary-general, reiterated that Israel's settlements were illegal under international law, and called for Jerusalem to be part of peace negotiations.
"Jerusalem's significance to all must be respected, and it should emerge from negotiations as the capital of two states," he said at the meeting's opening session.
Ban also called for Arab leaders to support US-led efforts to facilitate indirect "proximity" talks between Israel and the Palestinians.
The Palestinians pulled out of the talks in reaction to Israel's announcement it would build 1,600 settlements on occupied land.
The Israeli move has also caused a rift between Israel and Washington as it came during a visit to Israel by Joe Biden, the US vice-president.
"I urge you to support efforts to start proximity talks and direct negotiations. Our common goal should be to resolve all final status issues within 24 months," Ban said.
But Mahmoud Abbas, the Palestinian president, ruled out taking part in the talks unless Israel stops building settlements.
"We cannot resume indirect negotiations as long as Israel maintains its settlement policy and the status quo," he said in his speech.
The warnings over Jerusalem were echoed by Recep Tayyip Erdogan, the Turkish prime minister, who called Israel's policy of considering Jerusalem as its united capital "madness".
"Jerusalem is the apple of the eye of each and every Muslim ... and we cannot at all accept any Israeli violation in Jerusalem or in Muslim sites," he said.
Danny Ayalon, Israel's deputy foreign minister, called the declarations coming out of the summit "aggressive", saying that the arguments put forward were based on "very selective opinions".
"We say strongly and firmly that we have a legal right to build in Jerusalem and those that seek to enshrine the 1949 Armistice Lines, the so-called 'Green Line' as a border have not understood history nor legal precedence," he said.
"We call on the Palestinian Authority to cease living in delusions of forcing Israel to the pre-1967 lines and to come and join us at the negotiation table without preconditions."
'Playing with fire'
Many Arab leaders have been angered by the opening of a restored 17th century synagogue near the al-Aqsa mosque compound in Jerusalem, home to Islam's third holiest site.
They see such acts as a clear intention by Israel to "Judaise" Jerusalem and undermine chances for a peace agreement with the Palestinians who consider East Jerusalem the capital of their future state.
Jordan's King Abdullah warned that Israel was "playing with fire" and trying to alter the identity of Jerusalem.
Bashar al-Assad, the president of Syria, described tensions with Israel as a "state of no-war, no-peace", and said his country was ready if "war is imposed" by Israel.
Muammar Gaddafi, the Libyan leader, opened the summit with an unusually short speech in which he said that Arabs were "waiting for actions, not words and speeches".
The Libyan leader, whose country is hosting this year's summit, has said he wants the meeting to be one of unity and the issue of Jerusalem has proved a unifying factor.
"The whole issue of Israeli actions has been under intense discussions, particularly in light of what has happened in that region in recent days," Mike Hanna, Al Jazeera's correspondent reporting from Sirte, said.
"Very clearly the issue of Jerusalem has been brought up and focused on because it is the one issue that would be very difficult for the international community as a whole to ignore.
"If, for example, resolutions would go to the UN General Assembly or the Security Council ... on the question of East Jerusalem and Israeli occupation, it is very difficult for international bodies - or countries such as the US - to veto or abstain over something they've already condemned."
Arab leaders are expected to ratify an agreement drafted by their foreign ministers to raise $500m in aid to improve the living conditions for Palestinians in Jerusalem as part of a "rescue" plan for the city.
A senior Palestinian official said the money would go towards improving infrastructure, building hospitals, schools, water wells and providing financial support to those whose houses have been demolished by Israeli authorities.
The leaders are also due to discuss a number of strategies, including keeping a record of what they consider to be Israeli "violations" in Jerusalem to refer them to higher bodies such as the International Criminal Court, based in the Hague in the Netherlands.
The last Arab League summit, held two years ago, was hosted by Qatar.