"Progress towards peace requires a freeze of Israel's settlement enterprise," Ban told a Security Council debate on the Middle East.
The UN chief spoke after Israel approved plans to build 153 new settler homes in the occupied West Bank, which the Peace Now group said was the first construction project approved in the last 18 months.
Last week, Israel declared 370 acres in the West Bank, south of Jericho, as state land.
Condemning Palestinian stabbings, vehicle attacks and shootings against Israelis, Ban however stressed that occupation often breeds hate and extremism.
"Palestinian frustration is growing under the weight of a half century of occupation and the paralysis of the peace process," he said.
"As oppressed peoples have demonstrated throughout the ages, it is human nature to react to occupation, which often serves as a potent incubator of hate and extremism."
In Jerusalem, Israeli Prime Minister Benjamin Netanyahu accused Ban of "encouraging terror" over his remarks on the occupation.
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The United Nations has branded Israeli settlement expansions illegal, arguing that they are an attempt to undermine plans for a Palestinian state by absorbing land earmarked for the new country.
Ban described the planned settlements as "provocative acts" and an "affront to the Palestinian people and to the international community."
"They rightly raise fundamental questions about Israel's commitment to a two-state solution," he said.
US Ambassador Samantha Power said the United States "strongly opposes" settlement activity that she described as "fundamentally incompatible with the two-state solution."
But she added that anger over settlements should not lead to violence.
"Settlement activity can never itself be an excuse for violence. Never," said Power.
In Brussels, an EU spokesperson for foreign affairs stated that the European Union "strongly opposes" Israel's settlement policy and stressed the Palestinians need land for economic development.
"Settlements are illegal under international law, constitute an obstacle to peace and threaten to make a two-state solution impossible," he said.
Israel seized the West Bank and east Jerusalem in the 1967 Six-Day War. It later annexed east Jerusalem in a move never recognized by the international community.
Today, some 380,000 Israelis live in 135 West Bank settlements, with another 200,000 in east Jerusalem.