Russia has agreed to civilian observers monitoring the political and security situation in Ukraine, claiming it will help stamp out "ultra-radical tendencies" in the country.
However, Russia said it was barring them from the recently-annexed region of Crimea.
The country also hit back at the widening of sanctions, calling them "divorced from reality" and said it reserved the right to impose sanctions of its own.
The 57 member countries of the Organisation for Security and Co-operation in Europe (OSCE) have agreed an initial deployment of 100 monitors to regions in the east, south and west of Ukraine.
They will spend six months in the country and 400 more could be added "as necessary and according to the situation", diplomats said.
Western countries have been pushing hard for an observer mission as a way of preventing an escalation of tensions in Ukraine following Russia's annexation of the Crimean peninsula.
Russia had blocked the plan on previous occasions.
Pro-Russia supporters celebrate the annexation in Simferopol, Crimea OSCE vice-chairperson Thomas Greminger welcomed the decision as a "very meaningful contribution to de-escalate the situation in Ukraine".
But, in a statement on Saturday, Russia's Foreign Ministry made it clear Crimea is a 'no-go area' for the observers.
It said: "The mission's mandate reflects the new political and legal realities and does not apply to Crimea and Sevastopol, which became a part of Russia."
"Russia hopes that the objective and impartial work of the international observers will help to overcome the internal Ukrainian crisis, stop rampant nationalist banditry, eradicate ultra-radical tendencies."
US ambassador to the OSCE, Daniel Baer, said he remained optimistic that the mission would have access throughout Ukraine, including Crimea.
Mr Baer said OSCE teams would start deploying within 24 hours.
Moscow celebrates the annexation of Crimea with a fireworks display Prime Minister David Cameron and other EU leaders have imposed sanctions on 12 more people to punish Moscow for its takeover of the Ukrainian territory.
There are now 33 Ukrainians and Russians on the list.
"It's a pity that the European Council made a decision that is divorced from reality," said Russia's Foreign Ministry in a statement on its website.
"We believe it is time to return to the platform of pragmatic cooperation that reflects the interests of our countries.
"However, of course, the Russian side reserves itself the right to give a comparable answer to the actions taken."
The EU also agreed to step up moves to reduce the bloc's reliance on Russian energy.
Mr Cameron said EU members needed to do more to develop their own reserves, as well as their ability to use gas from overseas producers, including the US.
The Prime Minister said: "Our message to Russia is clear: choose the path to diplomacy and de-escalation or face increasing isolation and tighter and tighter sanctions."
Sanctions against Russia's ultra-rich are still on the table, says the PM Mr Cameron also refused to rule out further sanctions against several oligarchs, including Chelsea owner Roman Abramovich.
Meanwhile, Ukraine's foreign affairs minister said that a political association agreement signed between the European Union and Ukraine was the choice of the Ukrainian people.
Andrii Deshchytsia said the agreement had been on the table for years.
The highly symbolic piece of paper is part of the same EU deal that sparked Ukraine's political crisis when then-President Viktor Yanukovych rejected it in November and chose a bailout from Russia instead.
At the Kremlin on Friday, Russian President Vladimir Putin signed parliamentary legislation incorporating Crimea into Russia and hailed it as a "remarkable event".
As the crisis goes on, US President Barack Obama heads to Europe on Monday for a six-day trip.
He will visit The Hague for a nuclear security summit and a meeting of the G7, then to Brussels for a summit of European leaders and a meeting with the Nato secretary general.
He will also be going to Rome and the Vatican to meet Pope Francis, before leaving the continent to head to Saudi Arabia.
The Pope shakes hands with victims' families as he leaves the church
The China image was taken two days after two, below, captured by Australia 

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Tropical Cyclone Gillian is expected to hit the Indian Ocean on Saturday 
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Malaysia's Transport Minister Hishammuddin Hussein at today's briefing 
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The satellite images of the two objects
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Mr Abbott tellsMPs about the sighting of two potential objects from MH370
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A Ukrainian naval officer leaves his base in Sevastopol
Family members are led away by authorities
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The athlete's sister Aimee spoke with June Steenkamp in court
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Police pictures showed the scene in the athlete's bedroom
The Ukraine crisis has led to a Cold War-style stand-off 
Thousands turned out in Simferopol and Sevastopol to celebrate the vote
Ukrainian troops in Kiev - thousands more are now on alert