Israel warned on Saturday that it would cut the supply of water and electricity to the Gaza Strip if rival Palestinian movements Fatah and Hamas form a unity government.
"The foreign ministry is examining the possibility of Israel pulling out of the Gaza Strip in terms of infrastructure," Deputy Foreign Minister Danny Ayalon told the daily Yediot Aharonot website.
A unity government deal "would transform the Palestinian Authority into a terrorist authority and would put an end to any hope for a peace agreement" with Israel, said Ayalon, who is also a Knesset deputy from the nationalist Yisrael Beitenu party.
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On Friday, Israeli ministers decided to maintain a freeze on the transfer of tens of millions of dollars in tax monies to the Palestinian Authority hours after Palestinian president Mahmud Abbas held top-level talks with Hamas chief Khaled Meshaal at which they announced a new era of "partnership."
The transfer of funds, which make up a large percentage of the authority's monthly budget, was frozen on November 1 as a punitive measure after the Palestinians won full membership of the UN cultural organisation.
"If the Palestinians have signed an agreement over a unity government, it would make a transfer of funds impossible," a senior government official told AFP.
In January, Prime Minister Benjamin Netanyahu had already threatened to cut off water and power to Gaza, which has been controlled by Hamas since the Islamist group chased Fatah from the territory in 2008.
Israel, which unilaterally withdrew from Gaza and dismantled Jewish settlements in 2008, continues to supply the territory with water and 70 percent of its electrical power, the rest being supplied by neighbouring Egypt or local power plants.