The new EU guidelines, which were adopted by the European Commission late last month and are expected to be published this week, are to apply to areas Israel captured in the 1967 War, including the West Bank, East Jerusalem and the Golan Heights.

The head of political affairs for the EU delegation to Israel, Sandra de Waele, told Israel Radio on Tuesday that the guidelines had been drawn up as a result of "frustration with continued settlement expansion."

The EU currently provides millions of euros in grants to Israeli institutions and private companies. In future though, any Israeli organization or individual who seeks EU funding will be required to sign a clause pledging that they operate strictly within the country's pre-1967 borders.

Reaction to the news was predictable from both sides.

Israel defiant

Israeli Prime Minister Benjamin Netanyahu slammed the new funding guidelines, effectively accusing the 28-member EU of trying to meddle in his country's diplomatic affairs.

"We shall not accept any external dictates on our borders," the prime minister told an emergency meeting of his cabinet on Tuesday. "That is an issue that will be decided only in direct negotiations between the sides," he added, referring to the stalled peace talks between Israel and the Palestinians.

Israel's deputy foreign minister, Zeev Elkin, said the EU decision would undermine efforts by US Secretary of State John Kerry, who is in the region trying to bring the two sides together for the first negotiations in nearly three years.

"It certainly doesn't add to the atmosphere of peace talks. On the contrary, it fuels the Palestinian refusal to return to the negotiation table," Elkin said.

Palestinians pleased

The Palestinians, who say they will not return to the table until Israel freezes all settlement activity, welcomed the news.

"This is the beginning of new era," senior Palestinian official Hanan Ashrawi said. "Israel should listen carefully and should understand that this occupation cannot continue without any kind of accountability."

However, it wasn't immediately clear how much of an impact the new guidelines might have in practice.

A spokesperson for the EU's foreign policy coordinator, Catherine Ashton, told the Reuters news agency that the guidelines simply clarified a system that the EU had already been using.

pfd/tj (AP, Reuters, AFP)