Yasser Arafat named a new Palestinian cabinet and extended an olive branch to Israel on Tuesday as Israeli Prime Minister Ariel Sharon grappled with his worst political crisis since coming to power. Arafat, under pressure at home and abroad for sweeping reforms, unveiled his new government in a speech to the Palestinian parliament that was at times defiant and conciliatory toward Israel after two years of bloodshed.

Arafat's speech coincided with a political fight in Israel that has brought Sharon's broad-based coalition close to collapse in a row over government funding for Jewish settlements in the West Bank and Gaza Strip .

"They reoccupied our land and cities but failed to occupy our awareness, our determination, or to break our will or our souls," Arafat said at his battered headquarters in the West Bank city of Ramallah.

But the Palestinian president also repeated his condemnation of "all terrorist acts that harm civilians" and said the Palestinians had chosen peace as their "strategic option."

"So here we extend our hand to you in reconciliation and we extend the olive branch to resume the path that we began in Madrid and Oslo," Arafat said, referring to venues for peace talks that led to a historic interim accord with Israel in 1993.

Despite Arafat's words, his actions appeared unlikely to satisfy the United States or Israel. Both have called for a sweeping overhaul of the Palestinian Authority and have tried to sideline the Palestinian leader.

The government Arafat unveiled on Tuesday included only four new faces, Palestinian officials said.

Among the biggest changes was the replacement of reform-minded Interior Minister Abdel-Razzak al-Yahya, one of Washington's favorites, with Hani al-Hassan, an official from Arafat's Fatah movement.

Arafat presented the new cabinet, trimmed to 21 from 19 members, for a ratification vote by the Palestinian Legislative Council (PLC), which political sources said was expected to win approval later in the day or on Wednesday.

The old cabinet quit in September to avoid a no-confidence vote by parliament, which has stepped up criticism of Arafat's government during the two-year-old Palestinian uprising.

President Bush has called on Palestinians to choose leaders "not compromised by terror." Sharon has refused to resume peace talks until the Palestinians make major institutional changes, including reining in resistance man fight.

COALITION CRISIS

Even as Arafat spoke, his longtime foe Sharon remained caught in his worst coalition crisis since coming to power 19 months ago.

A senior official in Israeli Prime Minister Ariel Sharon's Likud party said on Tuesday there would be no choice but to call early elections within 90 days if his main coalition partner, the Labour Party, voted against the 2003 budget on Wednesday.

The Labour Party, headed by Defense Minister Binyamin Ben-Eliezer, has demanded some of the funds earmarked for settlements be diverted to the poor and the elderly.

Sharon, a longtime champion of settlement building, has threatened to kick Labour out of the government if it opposes the budget.

That would shatter Sharon's "national unity" coalition and leave him at the head of a minority government six votes shy of the number needed to pass legislation on its own.

Likud lawmaker Zeev Boim, chairman of the coalition, said Sharon would have a hard time forming a narrower coalition by drawing in smaller right-wing parties.

"The most realistic scenario is that the prime minister won't have a choice and he will go to the president and elections will be held within three months," Boim said.

A poll published on Tuesday in the Yedioth Ahronoth newspaper showed the Likud would gain 10 parliament seats for a total of 29 seats if elections were held now, while Labour would end up with 21 seats, a loss of four.

Commentators have said Sharon may still be swayed from early elections by the tough challenge to his leadership from former Prime Minister Benjamin Netanyahu in party primary voting that would precede national elections.

But the Yedioth poll showed Sharon had the support of 50 percent of the 300,000-strong Likud rank-and-file that will vote for party leader, while Netanyahu commanded only 38 percent.

VIOLENCE CONTINUES

The cracks in Sharon's government appeared at a time when Israel is trying to present a united front in the face of U.S. pressure to rein in Middle East violence while Washington pursues Arab support for a possible war on Iraq.

But the bloodletting has continued. Outside the West Bank city of Jenin, Israeli occupation troops killed a Palestinian resistance man in a gun battle on Tuesday morning, witnesses said.

Israeli security sources said the man had been involved in resistance attacks on Israelis. At least 1,635 Palestinians and 620 Israelis have been killed since the uprising began.

PHOTO CAPTION

Palestinian President Yasser Arafat said in a speech Tuesday announcing a new cabinet that he was extending an olive branch to Israel. 'So here we extend our hand to you in reconciliation and we extend the olive branch to resume the path that we began in Madrid and Oslo,' Arafat said, referring to venues for peace talks that led in 1993 to a historic interim accord with Israel. Arafat is shown in the West Bank city of Ramallah in this Oct. 22, 2002, photo. (Osama Silwadi/Reuter