US Secretary of State Hillary Clinton has said Israel's plan to go ahead with more settlement building in the West Bank was counterproductive to peace negotiations.
Her comments came as the US announced it would give an additional $150m to the Palestinian Authority.
Washington is seeking to boost the fledgling government amid an impasse in the peace talks with Israel.
The funding was announced one day before Mrs Clinton is to meet with Israeli Prime Minister Benjamin Netanyahu, who is on a five-day visit to the US.
She faces the tough task of reviving Middle East peace talks that began in Washington 2 September. They were suspended by the Palestinians three weeks later when Mr Netanyahu refused to extend a 10-month limited building freeze in West Bank settlements.
Israel announced on Monday it was moving ahead with a housing project in a part of the occupied West Bank that Israel annexed to Jerusalem 43 years ago.
Hillary Clinton said the 'announcement was counterproductive to our efforts to resume negotiations between the parties; we still believe that a positive outcome is both possible and necessary.'
In New York, Benjamin Netanyahu's spokesmen voiced confidence that friction with the US over the settlement expansion would be smoothed over.
Israeli Cabinet Secretary Tzvi Hauser said: 'There are disagreements sometimes between friends and we know how to work through such disagreements and move on.'
Mrs Clinton announced the funding for the Palestinian Authority in a joint video conference with Palestinian Prime Minister Salam Fayyad.
He has been scrambling to fill a huge projected budget hole as his government expands services in expectation of full eventual statehood.
The slow arrival of funds, especially from Arab states, has forced Mr Fayyad to take austerity measures, and he said in September he needed about $500m this year to fund everything from official salaries to infrastructure projects.
US President Barack Obama said that 'enormous obstacles' remain in the Middle East peace process but that the United States would continue to work toward the goal of setting up an independent Palestinian state living side-by-side in peace with Israel.
Meanwhile, Palestinian President Mahmoud Abbas has asked for a United Nation Security Council meeting to discuss Jewish settlement building on occupied land in the West Bank where the Palestinians aim to found a state.
Israel said on Monday it would go ahead with plans for 1,300 new apartments on land in and around Jerusalem that was annexed by Israel following the 1967 Middle East war. A further 800 housing units were planned for the settlement of Ariel in the northern West Bank.
Spokesman for Abbas Nabil Abu Rdainah said that 'something must be done on the international level to halt the settlement expansion which the Israeli government is undertaking in the West Bank, including Jerusalem.'
Abbas had instructed his delegate to the United Nations, where the Palestinians have observer status, to request the meeting.
At the UN, diplomats said Mansour had spoken by telephone with British Ambassador Mark Lyall Grant, who currently holds the council presidency, about a possible meeting but had not mentioned a specific date.
Abbas, who opposes violence in pursuit of Palestinian statehood, has said direct negotiations with Israel remain his first choice for pursuing peace.
He has also said he will seek US and UN Security Council support for the establishment of a Palestinian state in the event of a failure of the talks, part of the 'peace process' that began two decades ago.
