Fighter jets target southern Gaza following spate of Palestinian deaths in West Bank.
“New construction in East Jerusalem or the West Bank undermines mutual trust and endangers the proximity talks that are the first step toward the full negotiations that both sides want and need,” Clinton said.
“It exposes daylight between Israel and the United States that others in the region could hope to exploit.”
Clinton reaffirmed Washington’s committment to Israel as “rock solid” but, on the conflict with the Palestinians, said that the “status quo is unsustainable for all sides. It promises only more violence and unrealised aspirations”.
Her remarks come as US and Israeli officials try to ease one of the worst ever crises between the US and its Middle East ally.
The dispute erupted when Israel announced plans for 16,000 new Jewish homes to be built in occupied East Jerusalem, which the Palestinians want as the capital of a future state.
Clinton called the announcement – it came while Joe Biden, the US vice-president, was on a visit to Israel – an insult that damaged President Barack Obama’s attempts to relaunch stalled peace negotiations.
The Palestinians pulled out of planned so-called proximity talks after the announcement and have demanded that all construction be stopped before they return to talks.
In her speech to Aipac, Clinton stressed that the US is determined to achieve broad Middle East peace but will say that all parties, including Israel, must make difficult choices.
“As Israel’s friend, it is our responsibility to give credit when it is due and to tell the truth when it is needed,” she said.
“The way forward is clear: two states for two peoples living side by side in peace and security, with peace between Israel and Syria, and Israel and Lebanon, and normal relations between Israel and all the Arab states.”
On the key issue of Jerusalem, which Israel claims as solely their capital, while the Palestinians say East Jerusalem should be their capital, Clinton pushed for moderation.
“The United States recognises that Jerusalem is a deeply important issue for Israelis and Palestinians, and for Jews, Muslims, and Christians,” she said.
“We believe that through good faith negotiations the parties can mutually agree on an outcome that realises the aspirations of both parties for Jerusalem, and safeguards its status for people around the world.”
Each time she stood up for Israel’s security, Clinton prompted standing ovations from the estimated 7,500 delegates at the Aipac conference.
Clinton has demanded that Binyamin Netanyahu, the Israeli prime minister, move to restore trust and confidence in the peace process, including a halt to projects in Israeli-occupied East Jerusalem.
Netanyahu will also address Aipac on Monday and is scheduled to meet Obama on Tuesday.
Although Netanyahu has apologised for the timing of the settlement building announcement, has had said his administration will not freeze construction in occupied East Jerusalem.
But in a call to Clinton he reportedly outlined some measures that his government would take to improve the impasse in talks.
The package has not been made public, but Israeli officials say part of it is an agreement to discuss all outstanding issues, such as the future of Jerusalem, borders, Jewish settlements and Palestinian refugees once the talks are restarted.
Netanyahu met George Mitchell, the US Middle East peace envoy, in Jerusalem on Sunday, as the US moved to restart the stalled peace process.
In her remarks on Monday, Clinton also said that the US will continue to demand Hamas, the Palestinian group that controls the Gaza Strip, renounce violence and recognise Israel as a valid state.
She repeated US calls for the release of Gilad Shalit, the Israeli soldier captured and still being held by Hamas, and spoke on the Iranian issue, saying if Tehran were to build nuclear weapons, as the US suspects, there would be no greater strategic theat to Israel.
Speaking to Al Jazeera shortly after Clinton’s speech, Fawaz Gerges, a professor of Middle East politics and international relations at London School of Economics, said the US is rewarding Israel, with both the president and vice-president meeting Netanyahu in the next couple of days, despite their supposed affront at settlement building.
Nevertheless, Gerges said, “we are seeing the beginning of change. We are seeing the Obama foreign-policy team believes that the status quo is no longer viable, that American vital interests are being threatened by the status quo.
“The rhetoric and the language within the Obama administration is changing [but] it does not really seem to have the political will to exert pressure on its ally.”
Al Jazeera’s Sherine Tadros, in Jerusalem, said: “Initial reports here by the Israeli media seem pretty happy with the speech. They have taken it as a conciliatory and appeasing one.
“In general I think that it will aggravate the Palestinians … When Clinton was talking about the gestures that will be made towards the Palestinians, we are talking about perhaps easing some [Israeli] checkpoints [in the occupied West Bank], perhaps even releasing some Palestinian prisoners, this is what is written in the press.
“There are hundreds of checkpoints in the occupied West Bank. There are 10,000 Palestinian prisoners in Israeli jails. There is a siege on Gaza which has been in place for almost three years, affecting every facet of life.
“So, easing some of the checkpoints will not go very far in trust-building between the Israelis and Palestinians.”
In the run-up to Clinton’s speech, a fake message was sent out in the name of Aipac to the media – and picked up by Al Jazeera – indicating that the group had called on the Israeli government to freeze new settlement projects, both in the West Bank and Jerusalem.
Aipac later confirmed that it had issued such statement on Monday.