Three Gazans were killed and more than 20 wounded in Israeli shelling after militants attacked an Israeli jeep, injuring four soldiers, sources on both sides said.
The flare-up was one of the most serious clashes in a single day since Israel's devastating 22-day operation in the Gaza Strip over New Year 2009.
"Three people were killed and 25 wounded in Israeli shelling on the eastern districts of Zeitun and Shejaiya," said Ashraf al-Qudra, spokesman for the Hamas-run health ministry, referring to two districts east of Gaza City.
Witnesses said the shooting occurred after militants fired a rocket at an Israeli jeep near the Karni crossing east of Gaza City, in an attack claimed by the armed wing of the left-leaning Popular Front for the Liberation of Palestine (PFLP).
The Israeli army said that four soldiers had been wounded in attack by an anti-tank missile along the border.
"An hour ago, an anti-tank missile was fired at an IDF (army) patrol along the security fence in the northern Gaza Strip. Four soldiers were injured as a result," said a terse statement issued at 1730 GMT.
"In response, the IDF targeted several sites in the Gaza Strip."
Military sources said two of the soldiers were in serious condition, and a report on Israel's army radio said the jeep was blown up. The military did not comment on either report.
The attack was claimed by the PFLP's armed wing which issued a statement saying its militants had fired two anti-tank rockets at Israeli troops.
Medics also said another five Palestinians were wounded in Israeli shelling near Khan Yunis in southern Gaza.
"The occupation attacked Palestinian civilians east of Gaza City and Khan Yunis. We consider this escalation as very dangerous. It must stop immediately," said Fawzi Barhum, spokesman for the Hamas government which rules the impoverished territory.
In recent days, tensions have been rising between Israeli troops and Gaza militants.
On Thursday, an Israeli soldier was wounded east of Khan Yunis when a tunnel packed with explosives was detonated in an attack claimed by Hamas's armed wing, the Ezzedine al-Qassam Brigades.
Several hours earlier, a 13-year-old Palestinian was shot dead by gunfire from an Israeli helicopter in the same area, medics and witnesses said.
And on Tuesday, three Israeli soldiers were wounded -- two moderately and one lightly -- in an another explosion in the same area, east of Khan Yunis.
Following Thursday's explosion, which the army said struck an empty military vehicle, throwing it 20 metres (more than 60 feet) into the air, Defence Minister Ehud Barak pointed the finger at Hamas and warned he was weighing "how and when to respond."
The previous flare-up in Gaza, which began on October 22 and continued for three days, saw eight militants killed in Israeli air strikes as armed groups fired more than 100 rockets into southern Israel, severely wounding two Thai workers.