A leaked EU report warns that  Jerusalem is more divided than it has been at any point since 1967. It calls on European countries to consider the imposition of tough sanctions against Israel over the building of settlements in the occupied East of the city.

The document describes the growth of a "vicious cycle of violence … increasingly threatening the viability of the two-state solution."

It says that the Israeli governments policy of "systematic" settlement building in "sensitive areas" of Jerusalem has contributed to these tensions.

This report has surfaced as indications from Washington suggest that Barack Obama is rethinking the United State's approach to dealing with Israel, and the broader issue of on-going conflicts in the Middle East in the wake of Binyamin Netanyahu's re-election.

Israel rejects claims that it is building illegal settlements in Jerusalem - saying that the city is an undivided capital.

The heads of missions from European countries represented in Jerusalem prepare this paper annually - it is used to advise EU foreign policymakers.

It has been obtained by the Guardian - it says that heavy-handed policing, evictions and home demolitions by Israeli forces, and other punitive measures by Israel have fueled tensions in the city.

Guardian reports that the following policy recommendations are included in the document:

• Potential new restrictions against “known violent settlers and those calling for acts of violence as regards immigration regulations in EU member states.”
• Further coordinated steps to ensure consumers in the EU are able to exercise their right to informed choice in respect of settlement products in line with existing EU rules.
• New efforts to raise awareness among European businesses about the risks of working with settlements, and the advancement of voluntary guidelines for tourism operators to prevent support for settlement business.

It also says that the content of the report is currently being studied in Brussels - and that its sources say that there is a growing feeling that the EU needs to take account of a growing “new reality” in Israel.