When Binyamin Netanyahu finally announced the make-up of his coalition government on 30 March, two of the most important posts went to figures from opposing ends of the political spectrum – the Labour leader Ehud Barak retained his job as minister of defence, and the leader of the far-right Yisrael Beiteinu (“Israeli Home”) party, Avigdor Lieberman, became foreign minister. Such a broad coalition, born of Israel’s system of proportional representation, will generate a stalemate in the domestic arena, and it is hard to see it making much progress in foreign affairs. Netanyahu secured Barak’s support only by agreeing to honour Israel’s long-standing commitment to Palestinian statehood, as opposed to his campaign promise of implementing “economic peace”, and yet Lieberman has already declared that Israel will not be bound by commitments agreed in the Annapolis peace talks in 2007.

As Donald Mcintyre wrote in the New Statesman recently, it is no longer realistic to expect the Israelis and the Palestinians to reach a peace treaty on their own, if indeed it ever was. If there is to be a settlement, it will have to be imposed by the Americans, yet it is hard to discern the intentions of the Obama administration. The president’s campaign speeches exposed a pro-Israeli tone that he has done little to moderate in his early weeks in office, and even though he appointed George Mitchell as a special envoy to the Middle East, the question of peace in the region has been low on his agenda until now.

Jeff Halper, an American-born activist who runs the Israeli Committee Against House Demolitions (ICAHD), believes that is a mistake. “The Israel-Palestine conflict may not be the bloodiest in the world, but it remains emblematic to Muslims, and to peoples the world over, of American hostility and belligerence,” he told me. The widespread perception that the occupation of the Palestinian territories is a US-Israeli project is strengthened by the fact that since 1973 Israel has received $1.8bn annually in military aid from the United States – a sum which more than covers the security costs of the occupation, according to Shir Hever, an Israeli economist who works for the Alternative Information Centre (AIC). “It raises the question of why the US sees it necessary to fund the Israeli occupation, and whether cutting this funding will force Israel to stop the occupation,” he wrote, in the Economy of the Occupation, the socio-economic bulletin published by the AIC. Halper argues that to maintain the status quo is in neither country’s interest: Obama will not make progress in Afghanistan and Iraq until he deals with the question of Israel/Palestine, and there would be “dancing in the streets of Tel Aviv” if Washington were to guarantee Israel’s security and insist that it end the occupation. “It’s exactly what Israelis want, but they can’t get there, given our political system.”

It is conventional to regard Palestinian extremism as the main obstacle to “the two-state solution” favoured by the international community, yet Halper says that no Israeli government, of any political persuasion, has ever truly considered allowing the creation of a viable Palestinian state. Even Yitzhak Rabin, who took the step of agreeing in principle to partitioning the land of historic Palestine, saw the River Jordan as Israel’s “natural border” and never planned to relinquish it. Without control of its own borders, a Palestinian “state” would be “a mere Bantustan”, in Halper’s phrase; and that Israel attached a “reservation” to the “road map” pioneered by the George W Bush administration in 2003, insisting it would control “the entry and exit of all persons and cargo” to the “provisional state” as well as its “air space and electromagnetic space”, confirms that it has never intended to relinquish its “matrix of control” in the occupied territories.

With hindsight, many people have come to see the Oslo Accords, for which Rabin paid with his life, as nothing more than a means of ridding Israel of the unwanted burden of policing Palestinian cities, though even at the time there were many doubters. According to the late Edward Said, Oslo led to “the PLO transform[ing] itself from a national liberation movement into a kind of small-town government, with the same handful of people still in command”. The late poet Mahmoud Darwish summed up the settlement in similar terms – “Jericho first and last”.

Even if Israel was genuinely committed to the creation of a Palestinian state, it would have to confront the formidable obstacle of the settlers’ movement, which has colonised vast tracts of land in the West Bank since 1967. The road map specified that Israel must cease settlement expansion and dismantle all settlements built since 2001, but it has done neither of these things, and the number of settlers in the West Bank and East Jerusalem has now reached 471,000.

In the past, Ariel Sharon said that Israel would make up for the fragmentation of territory caused by the presence of the settlements by building bridges and tunnels that would “allow the Palestinians to travel from Jenin [the northernmost city in the West Bank] to Hebron [the southernmost] without passing any Israeli roadblocks”. Already, the roads connecting Israeli settlements are raised on extended bridges spanning Palestinian routes and lands, or dive into tunnels beneath them, while “narrow Palestinian underpasses are usually bored under Israeli multi-laned highways”, says the Israeli architect Eyal Weizman in his recent book Hollow Land: Israel’s Architecture of Occupation. The unjust and unsustainable arrangement has produced absurd contortions: in some places, Israel has drawn a “border” beneath the decks of flyovers that carry settlers’ traffic through the West Bank, allowing it to retain control of the road surface while ceding sovereignty over the underside of the carriageway and the supporting pillars that stand in Palestinian land.

In Jerusalem, the situation is even more complicated. At the Camp David summit in 2000, President Clinton proposed to splinter the city along national lines with 64 kilometres of walls, creating “isolated neighbourhood enclaves” that would then be woven together by 40 bridges and tunnels. Even individual buildings would be partitioned vertically between the two states. The Haram al-Sharif, or Temple Mount, the city’s holiest shrine, would be divided on the same principle – the Palestinians would control the surface of the compound containing the Dome of the Rock and al-Aqsa Mosque, while the Israelis would have sovereignty over the “depth of the ground” beneath which, according to some archaeologists and historians, was the location of the Jewish temples.

The complexity of the arrangements reflected how hard the planners and politicians were attempting to accommodate two countries on the same patch of land; according to Eyal Weizman, they were trying “to multiply a single territorial reality and create two insular national geographies that occupy the same space”. It’s not surprising that it proved beyond the wit of US negotiators to divide the land, and yet evacuating the settlements and withdrawing to the 1967 borders will not be easy, either.

The first problem is financial. ICAHD estimates that up to 85 per cent of the settlers are “economic migrants”, drawn to the occupied territories by subsidies. In some cases, apartments in settlements come with a free car, and they attract students, young couples, recent immigrants and others on the fringes of Israeli society. They may possess no ideological commitment to living in the West Bank, and yet they would not want to leave unless they were offered similar terms elsewhere. Basing his figures on the disengagement from Gaza in 2005, when approximately 7,000 settlers were rehoused at a cost of 13 billion new Israeli shekels (roughly £2bn), Shir Hever estimates that it would cost approximately NIS766 billion (£125bn) to withdraw completely from the West Bank.

Israel could not afford such a sum on its own account, and the international community would not be prepared to pay it either; the most that the US has offered Israel as an incentive to end the occupation is $35bn, and even that amount was not endorsed by Congress. Of course, it would be possible to evacuate the settlers without paying the same level of compensation that the Gaza settlers received, but the arrival of “half a million displaced and traumatised people in urgent need of housing and employment” would incur a huge “social cost”, says Hever.

And cost is not the only concern. If Israel was to reverse a settlement programme that has been consuming vast public subsidies for more than 40 years, it would still be left with a hard core of approximately 75,000 settlers who will fight to stay in the lands they call Judaea and Samaria. In the past, the settlers’ threats to bring down the state have proved no more than bluster. The divine presence that supposedly guides their activities has not provided much protection when the power of the Israeli state is turned against them: the “Disengagement” from Gaza was accomplished easily, and the residents of the House of Peace in Hebron, who threatened to provoke a civil war, were evicted in a matter of hours last December. Yet the removal of thousands of armed settlers would require an operation on an unprecedented scale. Memories of the evacuation of the illegal hilltop settlement of Amona in 2006, when 300 people were injured, including three members of the Knesset, are still fresh, and Israeli politicians live in fear of the worst eventuality of all – that of Jews killing Jews.

Even if Israel were to implement some form of partial withdrawal, such as “the realignment” proposed by the former prime minister Ehud Olmert, which envisages regrouping the settlements inside the “separation barrier” that runs between Israel and the West Bank, and often deviates inside it, annexing tracts of Palestinian farmland, it would not lead to the creation of a viable Palestinian state. There is a substantial minority of Palestinians who are unable to accept the existence of the state of Israel in any form, and many others who would object to the idea that the shrunken territory bounded by the zigzagging wall is all they are entitled to. It would not take many terrorist attacks within Israel’s new borders to prompt it to reoccupy the territory it had given up.

Given the further complication presented by Palestinian disunity, and the lack of concerted pressure from the US, it is hardly surprising that people have begun to declare the “two-state solution” dead. The “binational state” is the best-known alternative. This would require Israel to annex the land it occupied more than 40 years ago and absorb its population. The disadvantages to Israel are obvious – the presence of a Palestinian majority within the borders of the newly enlarged country would ensure the end of what the political scientist Meron Benvenisti calls the “Jewish-Zionist state” – and yet it need not mean the end of the Zionist project in all its forms. There was a strand in early Zionist thinking which insisted that the Jewish people did not need a Jewish state; men such as Judah Magnes, first chancellor of the Hebrew University of Jerusalem, campaigned for a federal state that would respect the rights of all citizens, while guaranteeing the aspirations of the Jewish people to cultural and linguistic autonomy.

The idea was picked up by Yasser Arafat’s Palestine Liberation Organisation in 1969, before it was converted to the internationally endorsed solution of two states, and there remain many Palestinian proponents of the idea. Ali Abunimah, founder of the online magazine Electronic Intifada and the author of One Country: A Bold Proposal to End the Israeli-Palestinian Impasse, believes that the binational state or one-state solution “offers the potential to de-territorialise the conflict and neutralise demography and ethnicity as a source of political power and legitimacy”. He believes that “the massive, unprecedented public mobilisation in Europe and even in North America” against the Israeli onslaught on Gaza in January, coupled with growing support for a campaign of boycott, divestment and sanctions against Israel has brought the prospect of one state closer, despite the hatred and resentment the war provoked. As he wrote in Electronic Intifada early this year: “A de-Zionised, decolonised, reintegrated Palestine affording equal rights to all who live in it, regardless of religion or ethnicity, and return for refugees is not a utopian dream.”

Yet the idea has supporters in Israel, as well, at both ends of the political spectrum. Extremist settlers would like to solve the demographic question by annexing the occupied territories and denying the Palestinian majority a vote (a tactic which would merely transform a national independence movement into a civil rights struggle), but there are also moderate Israelis who believe it is a better option than prolonging the status quo. While acknowledging that it is up to the Palestinians to choose their future direction, Shir Hever believes a binational state offers a better solution for both sides – if the Palestinians were to create a separate state, it would inevitably be extremely poor, and if Israel remains a Jewish state, it will continue to discriminate against its non-Jewish citizens. “That’s not a real long-term solution. Eventually, Israel will have to change as well, and I prefer sooner than later,” he says.

Jeff Halper has proposed another plan that combines elements of both the binational state and two states. He envisages a regional federation that will include Israel, Palestine and all the neighbouring countries in an arrangement similar to the European Union. In such a federation, Palestinians would vote in Palestine, but they would be free to live and work in any country of the “Middle East Union”. His plan would not require Israel to evacuate the settlers from the new state of Palestine although, given that they would be living under Palestinian jurisdiction, it would neutralise their controlling presence, and it would not mean an end to the Jewish nature of Israel. It would solve the vexatious issue of the Palestinian refugees’ right to return by “decoupling” it from the question of citizenship, and would compensate the Palestinians for their compromise on territory with “the economic, social and geographic depth afforded by a regional confederation”.

Halper calls it a “win-win approach”, even if so far it seems to have garnered little support. “When the two-state solution is finally seen as gone, then I think people will start casting around for a new approach – and then the confederation idea will make sense,” he says.

In the meantime, the idea of separate states in the West Bank and Gaza is also being discussed. The advantages are obvious: even if planners were able to bridge the physical divide between the separate halves of the Palestinian territories by building tunnels and flyovers through Israeli territory, the cultural and historical divides might prove harder to overcome, not to mention the rift between Fatah and Hamas. Some people say that, rather than establish a single state in the West Bank and Gaza, it would be better to acknowledge historical affiliations by returning Gaza to Egypt’s control and allowing Jordan to resume sovereignty in the West Bank.

The visions of a region dominated by segmented statelets do not end with the so-called three-state solution. In the aftermath of the evacuation of Gush Katif, Gaza, in August 2005, settlers’ leaders in the West Bank vowed that they would never allow the same thing to happen again: if the government planned to evacuate settlements in the West Bank or “realign” them closer to the 1967 border, they would declare the creation of an autonomous Jewish state in Judaea and Samaria.

It is a fantasy that will never be realised, but it acknowledges that the settlers’ interests run contrary to those of the majority of Israelis. During the past 40 years, Israel has been reduced to a state of paralysis by a movement that regards its own activities as the legitimate extension of the original Zionist project to reclaim the Holy Land for the Jews. There could be no clearer demonstration of their influence within Israel’s political system than that one of their number has now become foreign minister, with responsibility for directing peace negotiations with its neighbours.

Edward Platt is a contributing writer of the New Statesman. He is completing a book about the West Bank city of Hebron, provisionally to be called “City of Abraham”