America has been forced to withhold funding from its key ally in the Middle East amid the strain of paying for its expensive military campaign in Iraq.

Washington had promised Israel a substantial increase in its financial support to bolster it against Iran.

But US officials decided to amend their pledge because of escalating costs, including the need to spend $750 million (£375 million) to fly thousands of armoured troop carriers to Iraq to protect troops against Iranian-made roadside bombs.

The Pentagon has come under intense pressure to speed up deployment of the new Mine Resistant Ambush Protected vehicle (MRAP), which boasts a V-shaped hull and a raised chassis and is proven to withstand a range of explosive projectiles common in Iraq.

The army has ordered 8,000 MRAP vehicles at a cost of $12 billion. But a request by the Pentagon for an emergency transport budget illustrates the increasing danger faced by troops on the ground.

Officials said extra funds would be used to get 3,400 MRAPs to Iraq by the end of the year.

The diversion of funds has caused a budget shortfall in Israel that forced Ehud Olmert, the prime minister, to convene an emergency cabinet meeting yesterday.

Officials discussed ways of dealing with the £250 million deficit in next year's budget, which Israeli commentators said would result in austerity measures.

More worryingly for Israel, there are fears the shortfall will have a significant impact on the ability of the country to defend itself as military training and procurement are cut back.

The tension over the delayed American money has tarnished relations between the two countries, which were boosted only last week when Israel confirmed it would enjoy a surge in American defence aid of 25 per cent over the next 10 years.

US forces claimed yesterday to have killed 32 suspected Shia terrorists and taken 12 prisoner in an operation involving air strikes on Baghdad's Sadr City district.

They said the militia members killed belonged to a group accused of smuggling weapons and facilitating attacks on Americans. However, regional satellite television channels claimed that women and children, not fighters, were killed in the raid.

America is under tremendous pressure to clamp down on Iran's allies in Iraq. Lt General Raymond Odierno, the US operations commander in Iraq, said Iran-backed attacks rose to 99 last month in response to American efforts to clamp down on Shia militias.

The pressure American forces are under in Iraq was further illustrated when they released photographs of insurgents setting up a battery of 49 rockets aimed at a US base outside Baghdad. One serviceman was killed and 15 others injured in the attack that followed.

United Nations staff yesterday unanimously voted against an expanded UN presence in Iraq. Their protest came a day before the Security Council is due to agree a resolution broadening UN involvement in the country.

The UN scaled back its operations after the bombing of its Baghdad headquarters in 2003 killed its envoy and 21 other staff. The organisation's staff association said it could not put up with "the unacceptably high level of risk to the safety and security of UN personnel".