Palestinian official Saeb Erekat yesterday called on the diplomatic community to boycott the US Embassy in Israel's Jerusalem office.
In a statement, Erekat called for the international community "not to engage in any kind of formal relationship or collaboration" with the new Palestinian affairs unit, which will take over the responsibilities of the shuttered US consulate in Jerusalem.
Palestinians view this as a "downgrade" and a "new assault" on the peace process.
State Department spokesman Robert Palladino said in a statement: "This decision was driven by our global efforts to increase the efficiency and effectiveness of our diplomatic engagements and operations."
"It does not signal a change of US policy on Jerusalem, the West Bank, or the Gaza Strip."
Israel occupied East Jerusalem during the 1967 Arab-Israeli War. In a move never recognised by the international community, it unilaterally annexed the entire city in 1980, claiming it as its "eternal and undivided" capital.
In 2016, UNESCO passed a resolution describing Jerusalem as an "occupied" city and Israel as an "occupying power", which, under international law, has no sovereignty over the historic city.
The same resolution stated that Jerusalem's Old City was "entirely Palestinian", going on to emphasise its historical "Muslim and Christian" identity and heritage.