If Israel wants to remain a Jewish state - and a democratic state - it will have to decide on a position somewhere in between.

"The dispute is not between continuing the status quo or a two-state solution," said Mr Olmert, a former hardliner who has made a big shift to the peace camp since last year's Annapolis conference. "The dispute is between a two-state solution and the emergence of a new narrative - of one state."

If the past year of negotiations, including eight visits to the region by the US Secretary of State, Condoleezza Rice, and two more by Mr Bush, failed to produce a breakthrough, was Annapolis a waste of time?

"No," said Shlomo Brom, director of the Israeli-Palestinian Relations Program at Tel Aviv University's Institute for National Security Studies. A former brigadier-general in the Israel Defence Forces, as director of the IDF's strategic planning division Mr Brom was a key participant in peace negotiations with Palestinians throughout the 1990s.

He gave two reasons why the conference was worthwhile. "First, we are talking again. Secondly, there have been several confidence-building measures to come out of Annapolis that have helped to build trust between both sides."

Mr Brom believes the most important of these measures can be seen in Palestinian cities such as Jenin and Nablus, in the north of the West Bank.

Once the breeding ground for suicide bombers and other extreme forms of violence, a newly trained and equipped Palestinian security force had been able to successfully restore law and order, he said. Even in the volatile city of Hebron, newly established Palestinian forces have begun to make impressive inroads.

IDF troops no longer patrol the streets of Nablus and Jenin, and now exchange information with their Palestinian counterparts about perceived security threats.

General James Jones, a favourite to become national security adviser in the Obama administration, told The New York Times in September: "I see this as a kind of dress rehearsal for statehood, a crucible where the two sides can prove things to each other."

In an interview with the Herald , the Palestinian Authority's Minister for Planning and International Co-operation, Samir Abdullah, added several other examples to the list of positive developments since Annapolis.

"In the areas of budget management, in improving the integrity of the banking system, in making sure that our public sector people are getting paid in full and on time, we have made real advances," he said.

"For the first time we are starting to build plans for the medium term based on recurrent expenditure, not short-term plans which rely on short-term aid strategies. I think we are starting to deliver value for money to the people in terms of the services that we can administer."

If Mr Abdullah's statement is true, this could prove life-changing for a Palestinian population accustomed to years of endemic corruption among Palestinian Authority officials.

Mr Abdullah added that the Palestinian Authority had increased the confidence of potential investors with strict financial management controls imposed by the Palestinian Prime Minister, Salam Fayyad, a former World Bank economist who once served on the staff of the Federal Reserve Bank of St Louis.

Spurred by the promise engendered by Annapolis, international donors pledged nearly $12 billion in support of the Palestinian Reform and Development Plan last December.

"Our challenge is [to] not squander these resources we have been given and to use the money wisely to encourage further investment," Mr Fayyad said.

A review of Palestinian efforts to establish a macroeconomic and fiscal framework, conducted by the International Monetary Fund and published in September, supported Mr Abdullah's claim that real progress is being made.

The IMF said the Palestinian Authority had continued with prudent fiscal policies and reforms. "A strict government employment policy has been followed, wage rates have been virtually frozen and a range of measures have been implemented to improve utility bills payment," the IMF report said.

In the history of negotiations to resolve the Israeli-Palestinian conflict, the 1993 Oslo Accords were a heart-stopping moment of hope and one of the few instances of progress in which change could be measured on the ground. Oslo was the idea of two Israeli academics, Ron Pundak and Yair Hirschfeld, but it nevertheless ended in failure and recriminations.

Mr Pundak is now director of the Peres Centre for Peace, the foundation established in 1996 by the Israeli President, Shimon Peres. Mr Pundak blamed the breakdown of the Oslo Accords on a catastrophic implementation strategy.

"No one ever really trusted the other side, and the leaders totally forgot about building relations between the two civil societies. The leaders were ready to sign an agreement, and they did, but the people were not ready to come with them."

Asked whether Oslo was still relevant, Mr Pundak offered an unequivocal yes.

"It's self-annihilation or it's peace," he said. "We have no other option. At Oslo, for the first time, both sides recognised the other's rights for a state. Oslo is what is holding the whole thing together right now."

Looking forward, Mr Pundak's academic partner in the Oslo venture, Mr Hirschfeld, now director of the Economic Cooperation Foundation, delivered a message of good news and bad. "The bad news is that Israelis and Palestinians have reached the end point of what we can achieve on our own," Mr Hirschfeld said.

"The good news is that there is a new US administration that is looking to get out of Iraq, restore the balance between its Arab friends and Israel, and that will have the power to move the two-state solution ahead."

While he sees significant gaps between the Israeli and Palestinian positions, in particular which areas of land will be part of Israel and which will be part of a Palestinian state, Mr Hirschfeld believes there is much common ground.

"Things like water and economic management … There is no reason why we can't sign agreements on these issues as we keep talking. But the involvement of the other Arab states, and the United States, will be crucial."

In an open memo to the president-elect, Mr Obama, published in The Washington Post last week, the former US national security advisers Zbigniew Brzezinski and Brent Scowcroft laid down the four core principles that many observers agree will form the basis of any lasting peace accord between Israelis and Palestinians.

First, that Israel pull back to the pre-1967 border, with agreed reciprocal changes to take account of some Israeli settlements in the West Bank that cannot practically be removed.

Second, compensation in lieu of the right of return for Palestinian refugees and their descendants now residing abroad and in refugee camps in the West Bank and Gaza.

Three, Jerusalem as a real home to two capitals, and lastly, a demilitarised Palestinian state.

The two, former advisers to presidents Jimmy Carter and George Bush snr respectively, also urged Mr Obama to make resolution of the Israeli-Palestinian conflict a priority.

"It would liberate Arab governments to support US leadership in dealing with regional problems … it would change the region's psychological climate, putting Iran back on the defensive and putting a stop to its swagger," they wrote.

Because Mr Scowcroft has been advising Mr Obama on the Middle East, the article was closely read in Israel as a first-draft of a possible Obama plan.

A University of Haifa political science professor, Avi Ben-Zvi, whose academic focus is the relationship between Israel and the US, said he found most of it acceptable. "I also see it as a message to Israelis on how to vote in the upcoming election, to go for - [Kadima leader] Tzipi Livni, who supports the two-state solution, and reject [Likud leader] Benjamin Netanyahu, who is talking about an economic plan and not a two-state solution."

How the future leaders of Israel or Palestine will unite their own constituencies behind those four principles remains unclear.

Debilitating divisions between Fatah, the party of Mr Abbas that holds sway in the West Bank, and Hamas, the radical Islamic movement that controls Gaza, would almost certainly preclude an enforceable final settlement, even if Israel was itself ready.

To make matters worse, the divisions between Fatah and Hamas appear to be widening. In Israel, where the Government depends on a fragile coalition involving several parties, any prime minister who had the courage to force the evacuation of thousands of Israeli settlers from the West Bank and agreed to shared sovereignty over Jerusalem would require extraordinary political courage and luck to survive.