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The United States has told Israel it must halt an East Jerusalem construction project in accordance with the Obama administration's demands for a complete freeze on settlement building, Israeli radio stations reported on Sunday.

The State Department summoned Israeli Ambassador Michael Oren over the weekend to advise him that the project developed by American millionaire Irving Moskowitz should not go ahead, according to both Israel Radio and Army Radio.

Moskowitz, an influential supporter of Israeli settlement in East Jerusalem, purchased the Shepherd Hotel in 1985 and plans to tear it down and build housing units in its place. The hotel is located near a government compound that includes several government ministries and the national police headquarters.

The approval, granted by the Jerusalem municipality earlier this month, allows for the construction of 20 apartments plus a three-level underground parking lot.

In response, Oren told the State Department that Israeli construction in East Jerusalem was no different than in any other part of the country.

Jerusalem could not be considered along the same lines as settlements, he said, adding that Israel would not accede to this demand.

The Jerusalem municipality issued a statement following the report, saying the purchase was legal and it had acted with full transparency in granting building permits.

A spokesman for the U.S. Embassy had no immediate comment.

Prime Minister Benjamin Netanyahu told ministers at the weekly cabinet meeting on Sunday that Israel's sovereignty over Jerusalem was not a matter up for discussion, no matter the U.S. requests.

Netanyahu told ministers at the weekly cabinet meeting that Jerusalem is the united capital of Israel and that all citizens are allowed to purchase property in any part of the city they choose.

This is the policy of an open city, he said, and Israel would not accept a stance that counters that civil right.

The international community considers Jewish neighborhoods in the east of the city to be settlements and an obstacle to Israeli-Palestinian peacemaking.

Israel regards communities in the area annexed during the 1967 Six-Day war to be a legitimate part of the state.

Meanwhile, Palestinian officials said on Saturday they were worried the U.S. administration was close to an interim agreement with Israel on settlement construction.

According to information that has reached the Palestinian Authority, Israel will not completely halt construction in the settlements but will limit it drastically to the point of almost stopping it. In exchange, Arab countries will implement previously discussed concessions - among them, allowing Israeli planes to cross their airspace and opening diplomatic missions.

The PA will discuss this with U.S. special Middle East envoy George Mitchell in Ramallah this week.

Sources in the PA said that "half-solutions" are unacceptable and that Israel must completely stop construction in the settlements.

The Palestinian daily Al-Ayyam reported on Saturday that Mitchell is to inform PA President Mahmoud Abbas by phone that the U.S. administration has been unable to obtain Israel's consent to stop construction completely.

Senior Palestinian officials have been following ambiguous statements made by U.S. Secretary of State Hillary Clinton, who has hinted that an agreement with Israel is in the offing.

Senior officials say American assent to even limited Israeli construction in the settlements would once again damage the American position as an honest broker in the Middle East. U.S. President Barack Obama told American Jewish leaders last week that his clear position against settlements has strengthened his position as an honest broker with the Arabs.

Over the past few days, Abbas has reiterated concerns over continued construction in the settlements, saying he would not renew negotiations with Israel as long as such construction persisted. However, senior Palestinian officials said that soon after the Obama administration reaches an agreement with Israel and the Arab countries, it intends to renew negotiations on a final status agreement. If the PA refuses to join, as Abbas apparently articulated, it will appear to be obstructing the peace process.

In any case, the PA will probably seek to postpone talks until after the Sixth Fatah Congress and general elections, scheduled for August 4. Sources in the PA said talks between Hamas and Fatah, which were to resume between July 25-28, would probably be postponed until after the Fatah Congress opens in Bethlehem.