Israel has approved hundreds of settler homes after five members of an Israeli family - including three children - were knifed to death as they slept in a West Bank settlement over the weekend.

The attack and the government's response threatens to drive Israeli-Palestinian peacemaking even further out of reach.

The settlement construction, approved on Saturday night by the cabinet's ministerial team on settlements, would take place in West Bank settlement blocks that Israel expects to hold on to in any final peace deal, the prime minister's office said in a text message to reporters.

Israel's prime minister, Benjamin Netanyahu, who is under domestic pressure to respond harshly to the killings, is a member of that team. On Saturday, Netanyahu demanded international condemnation of the murders, that Palestinian militants said was in reprisal for Israel's occupation of the West Bank and Gaza.

Israeli soldiers mounted a massive search in the West Bank after a mother, father and three children, aged between three months and 11, were attacked with knives in their house in the settlement of Itamar, near the Palestinian city of Nablus. It was believed that two of the dead had their throats cut.

The alarm was raised by the couple's 12-year-old daughter who returned home from a youth event on the settlement to find the bloodstained scene. Two other children asleep in a separate room at the time of the attack were unharmed. The surviving children were being cared for by grandparents.

The area was sealed off by Israeli police and soldiers. The army launched an operation in the nearby Palestinian village of Awata, arresting about two dozen young men.

The dead were named as Udi Fogel, 36, his wife Ruth, 35, and children Yoav, 11, Elad, four, and Hadas, three months. The family previously lived in the Gush Katif settlement in the Gaza Strip, which was evacuated in 2005, and recently moved to Itamar.

Rabbi Yaakov Cohen, a neighbour who entered the house with the 12-year-old girl, told the Ynet website that her two-year-old brother "was lying next to his bleeding parents, shaking them with his hands and trying to get them to wake up, while crying … the sight in the house was shocking."

According to an Israeli settlement security official who visited the scene of the attack, one or two intruders scaled the security fence surrounding Itamar and entered the family's home through a window. The father, said the official, who did not want to be named, was a teacher in a religious school.

The al-Aqsa Martyrs Brigade, the armed wing of Fatah, the dominant political faction in the West Bank, said it had carried out the "heroic operation … in response to the fascist occupation against our people in the West Bank and Gaza Strip".

Netanyahu said: "I expect the international community to sharply and unequivocally condemn this murder, the murder of children. I have noticed that several countries that always hasten to the UN security council in order to condemn Israel, the state of the Jews, for planning a house in some locality … have been dilatory in sharply condemning the murder of Jewish infants. I expect them to issue such condemnations immediately, without balances, without understandings, without justifications. There is no justification and there can be neither excuse nor forgiveness for the murder of children."

He said he was disappointed in the reaction from the Palestinian Authority. Earlier he had blamed its "incitement against Israel" for the attack.

The Palestinian president, Mahmoud Abbas, telephoned Netanyahu to condemn the attack. "Violence will only bring more violence," he said, urging a comprehensive agreement to end the conflict. Salam Fayyad, the Palestinian prime minister, said that "violence does not justify violence … whoever does it and whoever the victims are".

A statement from the White House said there was "no possible justification for the killings of parents and children in their home". Britain's foreign secretary, William Hague, denounced the attack as "an act of incomprehensible cruelty".

It was the first killing of settlers since four adults were shot dead near Hebron on the eve of direct talks between Israel and the Palestinians last September. The talks stalled following Israel's refusal to extend a freeze on new settlement in the West Bank and East Jerusalem.

The West Bank has seen few militant operations in recent years as the Palestinian Authority has stepped up security as part of its efforts to build the basis of a future state. Last month, Israel removed the Hawara checkpoint near Itamar. But there has been continued tension between Palestinian villagers and hardline settlers, with regular clashes over the destruction of olive trees.

In the nearby Palestinian village of Awata, Khalil Shurrab said that "many, many soldiers" had come in the early hours, going house to house to round up people. Residents showed visitors rooms in houses that they said had been trashed by soldiers and spent tear gas canisters.

Hilary Minch, a volunteer with a Christian monitoring group based near Nablus, said the army had used live ammunition and stun grenades. "The next 24 hours will be very tense," she said. "The villagers fear retribution by the settlers."