The long term plan of the Israeli government is to create a Palestinian state in the West Bank and Gaza. This is even the stance of current Prime Minister Benjamin Netanyahu who, in the Bar-Ilan speech, expressed support for a two-state solution. This came as a bit of a surprise, as Likud has traditionally been opposed to a two-state solution, as are many of its supporters. However, as you point out, the demographics make it impossible for Israel to exist as a democratic and Jewish state while absorbing all of the West Bank and Gaza.
Creating a Palestinian state became the policy of the Israeli government in 1993 with the Oslo Accords. The Oslo Accords created the Palestinian National Authority, and granted this new government partial sovereignty over most of Gaza and around half of the West Bank. Though final status talks were set to occur in 1996, they did not start until 2000. Those talks did not result in the creation of a Palestinian state, as the Palestinians rejected all Israeli offers.
In the 2000 Camp David Summit, Israel offered the Palestinians around 90% of the West Bank. Israel would retain its settlement blocks in the West Bank, and give Palestinians control over all of Gaza. Israel would also transfer some land from its side of the Green Line. Israel would grant Palestine sovereignty over the Palestinian neighborhoods of East Jerusalem, which Israel annexed in 1967, and would grant Palestine "custodianship", though not sovereignty, over the top of the Temple Mount, where the Dome of the Rock is. The Palestinians rejected this, demanding land equivalent in size to the entirety of the West Bank, and full sovereignty over all of East Jerusalem, including Jewish holy sites like the Temple Mount and the Western Wall. Arafat also demanded that all 4 million Palestinian refugees and their descendants be allowed to return to Israel, which would make Arabs a majority in Israel.
After the failure of the Camp David talks to produce a final status agreement, President Clinton proposed parameters for an agreement. In the Clinton Parameters, Israel would retain around 5% of the West Bank and 80% of its settlers. The Palestinians would not demand full "right of return" for Palestinian refugees and their descendants, and sovereignty over holy sites in East Jerusalem would be granted to either Israel or Palestine, depending on the site. Israel accepted these parameters, with reservations that Clinton said were inside the parameters. Arafat claimed to accept these parameters, but Clinton said that Arafat's reservations were outside the Parameters.
More recently, in 2008, Israeli Prime Minister Ehud Olmert made an offer to the Palestinians that would meet their demand of land equivalent to the entirety of the West Bank. Israel would retain most of its settlement population in the settlement blocs, but transfer an equal amount of land from inside Israel's side of the green line in exchange for the land upon which the settlements were established. Olmert also offered to accept a small number of Palestinian refugees and descendents back into Israel, but created a fund to monetarily compensate refugees or descendants who could not return, in accordance with UN Resolution 194, which called for compensation for refugees who could not return to Israel. Olmert offered international sovereignty over the holy sites in East Jerusalem, where sovereignty would be shared by Israel, Jordan, Palestine, Saudi Arabia, and the United States. Abbas, the Palestinian Prime Minister, rejected this offer, refusing to allow Israel to retain the settlement bloc of Ariel. You can find a map of this offer here.
All of these offers have required Palestine to demilitarize, and Netanyahu's recent offers have required that Palestine accept Israel as a Jewish state and not attempt to change that via demographics. Abbas publicly accepted Israel's demand for a demilitarized state.
As you can see, a number of Israeli governments from across the political spectrum have offered the Palestinians a state in the West Bank and Gaza. It should therefore be clear that Israel intends to resolve the conflict with two states.
However (and you should be warned that there is a certain amount of conjecture here), Israelis and the current Israeli government have been less eager to establish a Palestinian state than they may have been in the past. Netanyahu has insisted on troops in the Jordan Valley for many years after the establishment of a Palestinian state. This is like because the security fence around the West Bank has lead to a dramatic reduction in terrorist attacks, meaning that the government is less likely to view the establishment of a Palestinian state as immediately necessarily to Israeli security interests. Combined with concerns that the West Bank could turn into a hotbed for terrorism like Gaza did after Israel's disengagement, and Netanyahu may be reluctant to agree to a deal that could sacrifice Israel's current security.
However, the majority of Israelis support a two state solution, Israel has offered Palestine a state several times, it is the stance of the current government that the conflict should be resolved via two states, and Israel is currently in negotiations over a final status agreement that would establish a Palestinian state, so we can conclude that Israel's "long term plan" in the West Bank is to establish a Palestinian state over almost all of it.
