A massive car explosion in Gaza city has killed a militant from the ruling Palestinian faction Hamas, raising fears that the threatened retaliation by the Israeli army over their captured solider has begun.

The car was travelling 100 metres from the residence of Mahmoud Abbas, the Palestinian President, and the offices of Ismail Haniyeh, the Prime Minister.

Sami Abu Zuhri, a Hamas spokesman, named the victim as Hamza Muhareb, a member of the group's armed wing. The Israeli army, which routinely claims responsibility for such attacks, said that it was not involved in the blast.

Witnesses have however said the car was attacked by an Israeli warplane, which wounded at least two others.

Israel has threatened large scale military action since the kidnapping of teenage soldier Corporal Gilad Shalit on Sunday.Tanks have been massing on the border and Ehud Olmert, the Israeli Prime Minister said that the country was prepared to assassinate senior Palestinians, including the leaders of Hamas, the ruling party. An incursion to free the soldier would be by far the largest move into Gaza since the Israeli withdrawal from the territory a year ago.

Gaza militants who seized Corporal Shalit have demanded the release of Palestinian women and children from Israeli jails in return for information about his whereabouts.

Mr Olmert responded quickly: "The question of freeing prisoners is in no way on the Israeli government agenda. There will be no negotiations, no bargaining, no agreements."

Palestinian bulldozers have now blocked roads in northern Gaza with sand piles and earth mounds and barbed wire, bracing for invasion.

"We are ready to confront any stupid act that the Zionists might commit," said Abu Obeida, spokesman for Hamas’ military wing. "We are well prepared and God willing, we are not going to welcome them with flowers."

Condoleezza Rice, the US Secretary of State, earlier urged Israel to show patience and to give diplomacy a chance.

"There really needs to be an effort now to try and calm the situation, not to let the situation escalate and to give diplomacy a chance to work to try to get this release," Dr Rice told reporters en route to Pakistan.

The military wing of Hamas was one of three armed groups that claimed responsibility for the pre-dawn raid, in which the French-Israeli citizen was captured. Armed men tunnelled from within Rafah to Kerem Shalom, a military base 300m across the border. Two Israeli soldiers were killed as well as two militants.

Times Recommends

• Michael Jackson: Not the final chapter
• Indian Army spends10m rupees on golf buggies
• Brüno toned down for 15 rating