Dan Izenberg has an interesting article on JPost today about the legality of the Islamic movement. Having done research into the movement as part of my senior thesis, I agree that the issue is very complex. Firstly, there is a schism in the movement between the more moderate political side (which actively participates in the Knesset), and the more radical side which is responsible for irritating Palestinian and Israeli-Arab sentiments over the Temple Mount last weekend. The group has not, technically, endorsed violence, but there have been cases in which one could tie the Islamic movement to acts of violence. And there's always a fine line between inculcation and incitement.
That being said, the Islamic movement, like many other radical Islamic groups, promotes itself through providing social services. Many mosques are paid for by the movement, and the Israeli Negev Bedouin can in fact get scholarships to attend school from the movement.
The solution here is clearly not military, but it ties into the more militaristic tactics Israel may have to use in the West Bank. By engaging with the Israeli-Arab community and limiting the Arab public's necessity for an Islamic Movement, Israel would be much more successful at lmiting the risk of terrorism. By arresting Ra'ad Salah, the movement's leader (he was later released and banned from Jlem for 30 days), Israel is only illustrating the threat he poses, which strengthens him.
The West Bank tie-in is that Israeli-Arabs sit along a very precarious rift in the Middle East. On the one hand they enjoy being Israeli citizens overall. Yet they identify strongly with Palestinians, and face discrimination from Israelis and scorn from non-Israeli Arabs. To win the fight against extremist groups in the Palestinian territories, Israel will have to show that in can respect Arabs. At the start this will mean the Israeli-Arab community.