Australia has no intention of moving its Tel Aviv embassy despite the US officially recognising Jerusalem as the capital of Israel.
President Donald Trump's decision to overturn decades of American foreign policy has drawn wide condemnation.
Foreign Minister Julie Bishop insists Australia won't be following the US to Jerusalem.
"We will not be taking steps to move our embassy in Israel, it will continue to offer diplomatic assistance in Tel Aviv," she told reporters in Canberra on Thursday.
Australia was committed to a two-state solution in the hotly-disputed region.
"Whereby the Israeli people and the Palestinian people can live in peace side-by-side within internationally-recognised boundaries remains our foreign policy objective," Ms Bishop said.
President Trump's decision has been labelled a declaration of war by some Palestinian commentators.
Amnesty International USA's Middle East advocacy director Raed Jarrar called on Australia to apply diplomatic pressure on the White House.
"This is a reckless and provocative decision by the Trump administration that further undermines the human rights of the Palestinian people," he said in a statement.
The Australian National Imams Council described the decision "ill-thought" and "unwarranted."
But UN Secretary-General Antonio Guterres, while urging caution, acknowledged the deep attachment Jerusalem held in the hearts of many.
"I have consistently spoken out against any unilateral measures that would jeopardise the prospect of peace for Israelis and Palestinians," he said in a statement.
Ms Bishop admitted she was concerned by any action that could inflame tensions.
"However, the Australian government remains committed and optimistic that the way to achieve enduring peace between the Israelis and Palestinians is a negotiated two-state solution."
Opposition foreign affairs spokeswoman Penny Wong backed that position and labelled the US move as unhelpful to the peace process.
Liberal Democrats senator David Leyonhjelm welcomed Mr Trump's decision, blaming the Palestinians for stalled peace talks in the Middle East.
"They really don't want peace in any permanent sense. Otherwise all the money will dry up," he said.
Greens senator Janet Rice said it was an extraordinarily provocative move by the US.
"For Trump to be taking this action is just going to be increasing hostilities," she told reporters.
© AAP 2017