They tried the negotiation route under the Barak/Camp David process and it led to the current Intifada. Since the Palestinians responded to the seemingly generous offer from Barak with civilian attacks on Israel, the Israelis should strongly consider even more aggressive military action against the terrorists. I just can't see any "peace process" being successful if the vermin behind homicide bombings in Israel are still able to plan and execute attacks.
Israel's motto in the post-Holocaust era has always been "Never Again!". The corollary to that would be "And if again, then not us alone". Not an exact quote, but you can follow the link for the whole article.
If they perceive a world aligned against them, I'm firmly convinced Israel will go nuclear and take out the whole f'ing lot of them. And with good reason.