JERUSALEM, May 16 (Jeffrey Heller/Reuters) - Prime Minister Benjamin Netanyahu, setting the stage for a high-profile US visit, said on Monday a Palestinian unity government that includes Hamas Islamists could not be Israel's peace partner.

But in what could be a departure from long-held positions, the right-wing leader appeared to hold out the prospect of future territorial compromise if his peace terms -- which have drawn Palestinian rejection in the past -- are met.

These compromises, by the way, are painful because it means, in any event, tracts of our homeland. This is not a strange land, it is the land of our fathers and we have historical rights and not only security interests, he said.

Netanyahu, addressing parliament before talks in Washington with President Barack Obama on Friday, said a unity deal that Western-backed Palestinian President Mahmoud Abbas reached this month with Hamas -- a movement whose founding charter calls for Israel's destruction -- was a barrier to peace.

A government half-comprised of those who declare daily their intention to destroy the State of Israel is not a partner for peace, he said.

The unity accord, which Palestinians see as essential to mending rifts before a planned bid to ask the United Nations to recognize a Palestinian state in September, envisages the formation of an interim government and elections this year.

Palestinian leaders say such an administration would be made up of independents and that Abbas would lead any peace dealings with Israel.

US-backed peace talks fizzled shortly after they resumed in September, after Netanyahu refused to extend a partial moratorium on building in Jewish settlements in the occupied West Bank, territory captured by Israel in the 1967 Arab-Israeli War and which Palestinians seek as part of their state.

Senior Palestinian official Saeb Erekat, commenting on the speech, said Netanyahu had chosen dictation, not negotiation and was solely responsible for the derailment of the peace process.

Israeli political commentators, however, saw a softening in Netanyahu's line on settlements.

In the speech, Netanyahu said Israel must retain the settlement blocs in any future peace deal. It was first time he has used that phrase, the commentators said, noting he could be suggesting a willingness to evacuate small, isolated settlements for peace.

BORDER CLASHES

Netanyahu, who is due to address a joint meeting of the US Congress on May 24, said the storming of Israel's frontiers with Syria, Lebanon and the Hamas-run Gaza Strip by Palestinian demonstrators on Sunday was an attack on its sovereignty.

Israeli troops opened fire at three border locations to try to prevent crowds of protesters from crossing, killing at least 13 people, on the day Palestinians annually mark what they term the catastrophe of Israel's founding in 1948.

Chanting by protesters, who included Palestinian refugees, that they want to return to Jaffa, a Biblical town now part of Tel Aviv in central Israel, Netanyahu said, showed they still had not come to terms with the Jewish state's existence.

Netanyahu said the Middle East was changing dramatically and swiftly and it is definitely possible that in the long term, there will be changes for the good.

But he cautioned, pointing to Sunday's events, in the short- or mid-term, our situation might be more problematic.

Reading from a list of conditions he has set out before, Netanyahu told parliament that Palestinian refusal to recognize Israel as the homeland of the Jewish people was at the root of the Israeli-Arab conflict.

Palestinian officials say the Palestine Liberation Organization, now headed by Abbas, recognized Israel years ago and that Netanyahu's demand was superfluous.

Netanyahu reiterated that any future Palestinian state must be demilitarized, with an Israeli military presence remaining along its eastern border at the Jordan River. Abbas has rejected any such deployment.

Israel, Netanyahu said, must retain the settlement blocs in the West Bank. Palestinians fear the enclaves would deny them a viable state.