Palestinian negotiator Saeb Erekat on Monday cautioned that West Bank settlement construction undermined the chances of a peace deal being reached, speaking on the same day the highest level talks were held between Israel and the Palestinians since February.

"The peace process has credibility that needs to be restored. The continuation of settlement activities eats up this credibility and undermines the possibility of reaching a peace agreement," Erekat said.

Erakat's comments came as Prime Minister Ehud Olmert and Palestinian President Mahmoud Abbas met on Monday to discuss the future of Israeli-Palestinian negotiations.

The two leaders hadn't met since February 19. Abbas suspended the talks last month to protest an Israel Defense Forces ground forces operation in Gaza.

Abbas and Olmert spent much of the three-hour meeting at Olmert's Jerusalem residence discussing settlements, but basic disagreements remained, Erekat said. He stated that Abbas showed Olmert documents, maps in emphasizing the need to stop the construction.

Erekat also said that restrictions on the ground in the West Bank remained the same, despite Israel's announcement last week that it had removed 50 roadblocks accross the region.

During Monday's meeting, Olmert said that Israel was committed to preventing a humanitarian crisis in Gaza.

For their part, the Palestinians present expressed their fears over the humanitarian situation in the coastal Strip, upon which Israel has enforced a blockade in response to militants' rocket fire at Israeli communities.

Both sides stressed their commitment to continue implementing the first stage of the road map peace plan.

A source in the prime minister's bureau said Olmert and Abbas were updated on talks being held by Foreign Minister Tzipi Livni and chief Palestinian negotiator Ahmed Qureia, and that the leaders declared their support for maintaining the negotiations.

Olmert and Abbas decided during the meeting to continue the intensive talks in order to reach a peace deal before the end of 2008, despite each side's opposing arguments about the situation on the ground - namely over lack of Palestinian action to combat terror, and Israel's ongoing construction in West Bank settlements.

A senior Israeli official said Olmert stressed that Palestinian security forces were not doing enough to rein in militants opposed to Abbas's peace moves.

"It was agreed that despite concerns that both parties have concerning issues on the ground ... the negotiations will continue with the goal of reaching an historic agreement by the end of the year," said Mark Regev, an Olmert spokesman.

The United States has stepped up pressure on both sides to take confidence-building steps ahead of a visit by President George W. Bush in May. Washington hopes they can clinch a Palestinian statehood deal before Bush leaves office in January.

"That will require hard work," Regev said.

On Sunday, Abbas said that he intends to hold a referendum on any peace treaty reached with Israel. He also announced that he would permit the prosecution of any teacher who takes part in sanctions called by the Palestinian teachers' union in the wake of announced public sector salary cuts. The union said in response that it intended to hold strikes in schools this week.

Diskin: Egypt steps up efforts to halt smuggling Meanwhile, Shin Bet security services chief Yuval Diskin told cabinet ministers on Sunday that Egypt is doing more to prevent weapons smuggling from Sinai into the Gaza Strip along the Philadephi strip. "The Egyptian activity isn't perfect and much more must be done but they are preventing more smuggling attempts," Diskin said.

Diskin told the cabinet that Palestinian terror organizations are constantly attempting to dispatch suicide bombers to Israel via Sinai and the Negev. He said both Egyptian and Israeli forces had successfully foiled many such attacks since the breaching of the border between Gaza and Egypt earlier this year.

Regarding Egypt's mediation of talks between Hamas and Fatah, Diskin said, "Hamas links the talks with Fatah to actions it wants Israel to take, such as opening the Rafah border crossing or announcing a cease-fire in the Gaza Strip and the West Bank." He added, "It doesn't appear that Hamas has, or will have, any real intention of enforcing that truce on other organizations, which will continue to carry out terror attacks."

When the discussion turned to the removal of roadblocks in the West Bank, Vice Premier Haim Ramon voiced support for the measure and said Israel must announce a unilateral cease-fire in order to test the intentions of Hamas. Defense Minister Ehud Barak said that Israel removed 10 of its roadblocks in the West Bank. "Even if we remove all of them it won't guarantee that all the Palestinians will suddenly make peace with us," Barak said.

When the ministers asked Diskin for his opinion on the matter, he said the best solution is to finish building the separation barrier. "If the fence were completed, including in the area around Jerusalem and in all the other areas, I'd recommend removing roadblocks in order to make life easier," he said. "But without the roadblocks between the various areas of the West Bank it's easier for terrorists to reach the places where there is no fence."

Go directly to jail Meanwhile, a senior Palestinian official urged a dozen Palestinian gunmen to return to a lockup in the West Bank city of Nablus, where they had been serving time as part of an amnesty deal with Israel. The gunmen of the Al-Aqsa Martyrs' Brigades fled the Palestinian-run Jneid Prison on Friday, after complaining that they had been beaten by guards.

Israel has not commented on the breakout.