Abbas fired Prime Minister Ismail Haniyeh of Hamas and said he would install a new government, suggesting he would hold new national elections in the future.
Abbas also declared a state of emergency in the Gaza Strip.
The decision ended the four-month-old unity government, put in place in March in an attempt to quell a conflict that had been heading toward civil war. It capped five days of escalating violence that killed nearly 90 people, including at least 32 on Thursday.
Hamas dealt Fatah a decisive blow in the Gaza Strip, seizing control of several key Fatah security compounds. Hamas fighters marched agents of Fatah's Preventive Security Service out of their headquarters in Gaza City, arms raised in the air, according to the Associated Press.
They also seized the principle Palestinian intelligence headquarters in Gaza City, and the Presidential Guard compound and intelligence headquarters in Rafah, the largest city in southern Gaza, according to the Washington Post.
Abbas' decision to dissolve the government won't change Hamas' control of Gaza, according to AP. It will, however, allow Fatah to retain control of the West Bank, and may lead to two separate Palestinian governments. Two million Palestinians live in the West Bank, while 1.4 million live in Gaza.
U.S. Secretary of State Condoleezza Rice said the United States supported Abbas' decision.
"We fully support him in his decision to try to end this crisis for the Palestinian people," she said.
The United States has supported Abbas in the past, because Fatah has recognized Israel's right to exist and signed on to peace agreements.