It's a bad law (although somewhat covered with 'good intentions', it does have a scent of racism which shouldn't exist in state laws).
However, note that the outcome was the unintentional creation of Jewish/Arabs communities in the Galilee, which actually help bring Jews and Arabs together.
It is also important to note that Arab Israelis have full rights as citizens, have representatives in the parliament and even were a part of the previous coalition. This, of course, is not the case for Palestinians in the occupied territories, and this issue MUST be resolved (one- or two-state solution, either way the current situation is unbearable).
With that, the current coalition does include extremists, and many (according to recent polls, >60%) in Israel want to see them replaced.