A gun battle has erupted between Hamas militants and Israeli troops in Gaza in one of the worst clashes since Israel launched an offensive there on Tuesday.
Israeli tanks and bulldozers crossing the border near Khan Younis ran into gunfire and grenades. Israeli forces are already in the south of Gaza as part of pressure to free a soldier captured by militants.
US President George Bush says the release of Corporal Gilad Shalit is key to resolving the crisis.
Israel has rejected conditions set for information on, or the freeing of, the tank gunner who was seized in a raid on his border post last Sunday in which two other soldiers and two attackers died.
The three groups believed to be holding him have demanded the release of 1,000 prisoners held in Israeli prisons, and an end to the offensive.
A large Israeli force remains poised on Gaza's northern edge as mediators make last-ditch attempts to reach a solution.
There were no reports of casualties in Saturday's battle. Correspondents say it was the first sustained encounter between the two sides since the incursion was launched on Tuesday night.
A small force of tanks and bulldozers had crossed the Israeli border in what the Israelis say was a limited operation and they were attacked after moving only a few hundred metres.
One grenade reportedly struck a bulldozer.
According to French news agency AFP, the Israelis responded with artillery and helicopter gunships.
There have been four consecutive nights of air strikes, targeting what the Israelis say are Palestinian militant positions.
However casualties in Gaza have been relatively light since the incursion began, with the deaths of two militants reported.