A key partner in Israeli Prime Minister Benjamin Netanyahu's coalition threatened Friday to pull out of the government if a deal to salvage peace talks with the Palestinians includes the release of Israeli-Arab prisoners.

This came after the US-mediated talks held Thursday were dealt a new blow as Israel unveiled sanctions against the Palestinians.

Economy Minister Naftali Bennett says the Palestinians should not have any say in how Israel deals with its own citizens.

"The emerging deal, if it includes the release of murderers with Israeli citizenship, damages Israeli sovereignty," Bennett said.

Israel, which collects about 80 million euros ($111 million) in taxes on behalf of the Palestinian Authority, two-thirds of its revenues, has decided to freeze the transfer of that money, an official said.

Israel was also suspending its participation with the Palestinians in developing a gas field off the Gaza Strip and putting a cap on Palestinian deposits in its banks, the Israeli official said, asking not to be named.

However, the official said "discussions under the aegis of the US to overcome the talks crisis will continue."

Palestinian chief negotiator Saeb Erakat lashed out at the move, calling it an act of "Israeli hijacking and the theft of the Palestinian people's money." The decision is a "violation of international law and norms by Israel" in revenge for the Palestinians' move to join a raft of international treaties as a state, Erakat told AFP.

Earlier US State Department spokeswoman Jen Psaki confirmed a new round of talks between the Israeli, Palestinian and US negotiators had been held Thursday. But she downplayed reports of a deal.

AFP - Reuters