Following Monday's news that the United Nations science and cultural body, UNESCO, had voted to give Palestine full membership status, Israel announced it would accelerate construction of settlements in east Jerusalem and the West Bank.
Israeli settlements built on occupied Palestinian land are considered illegal under international law, and Palestinians living in these areas have their rights and freedoms significantly limited as a result of such settlements.
"These measures were agreed... as punishment after the vote at UNESCO," said a senior official in the Israeli government on Tuesday.
"We will build 2,000 housing units, including 1,650 homes in east Jerusalem and the rest in the settlements of Maaleh Adumim and Efrat," he added, referring to a sprawling settlement east of Jerusalem and another between Bethlehem and the southern city of Hebron.
"It was also decided to temporarily freeze the transfer of funds to the Palestinian Authority," he added.
The Palestinians' presidential spokesman Nabil Abu Rudeina reacted angrily to Israel's decision.
He called on the Middle East Quartet and the U.S. administration to "put an end to this recklessness" which he warned would have "negative consequences" for the whole region.
"The Israeli decision to speed up settlement construction with the construction of 2,000 new housing units is an Israeli decision to accelerate the destruction of the peace process," he said.
Israel has also condemned the Palestinian bid to gain UN membership status, which is due for vote later this month. The Jewish state is being backed by the U.S. in its opposition to Palestinian statehood, and President Barack Obama is expected to veto the scheduled vote in order to block Palestine being recognised by the international body. The U.S. has also threatened to cut its funding to UNESCO following Monday's vote.
Israel is also reportedly considering withdrawing the special permits granted to top Palestinian officials that allow them to move between the West Bank and Israel with relative ease.
Netanyahu has denounced the UNESCO decision as yet another Palestinian attempt to seek "a state without a deal".
But Palestinian leaders have expressed anger and outrage at Israel's response to their quest for international recognition, which they say is akin to "intimidation and blackmail" in an attempt to prevent Palestinians from "pursuing our rights."
Servers providing internet connections to the West Bank and Gaza were hacked on Tuesday, causing a loss of all internet access. Palestinian communications minister Mashur Abu Daqqa said he suspected Israeli involvement in the cyber-attack.