That is commonly refered to as the One-State solution. Qaddafi used to refer to this solution as "Isrealistine" and it was growing in popularity but Qaddafi is dead now so no point in mentioning that.
Between 1900 and 1947, this is what was happening. Jewish people were moving into the area, buying private property and would live next to their Palestinian Neighbors. In 1947-48... WWII, Zionism, the flood of Refugees from Europe, and the displacement/ethnic cleansing of the Palestinians changed all of that.
I personally think that would be the best situation. No arbitrary border where people have to flee to the opposite side based on their ethnicity. Then again, I do not live there and that is not my homeland. If the Palestinian people would prefer a 2-State solution than i will support them, after all... they are the ones who live there, it is their home.
Also, its not currently a Musl/Jew Issue. A significant portion of the Palestinians are Christians. The border doesn't divide people on relgion it is based on Ethnicity... the Palestinians and the European Refugees from WWII
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