Sheikh Ahmed Yassin, spiritual head of Palestinian militant group Hamas, has been killed in an Israeli air strike.
Yassin had been returning from morning prayers at the mosque
He was targeted as he returned from a mosque in Gaza City at daybreak. Seven others were killed and many wounded.
The killing triggered unrest and calls for revenge from Palestinians, as tens of thousands took part in a funeral.
Hamas said Israel had "opened the gates of hell" - but the army said the Sheikh had been "personally responsible" for the killing of Israelis.
Security forces killed the Hamas leader in an air strike on his car in northern Gaza Strip, an army statement said.
Reports from the scene said Sheikh Yassin was being pushed in his wheelchair when he was directly hit by a missile.
Two bodyguards and one of Sheikh Yassin's sons were reported to be among those killed. At least 15 people were wounded.
At the funeral procession in Gaza City, mourners jostled to touch Sheikh Yassin's coffin, which was draped in a green Hamas flag.
Gunmen wearing Hamas headbands fired shots in the air.
"The battle is open and war between us and them is open," said senior Hamas leader Abdul Aziz al Rantissi. "Today they killed an Islamic symbol."
Israeli Deputy Defence Minister Zeev Boim said Yassin had been behind a terror network in Gaza and was what he called "marked for death".
Grief and anger
After news of the killing broke crowds took to the streets in Gaza, denouncing Israel and calling for revenge.
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The protests quickly spread to other Palestinian areas, and clashes broke out between youths and Israeli soldiers.
A Palestinian journalist was killed by troops while covering a protest in the West Bank town of Nablus, Palestinian sources say.
Three other protesters were reported to have been killed in separate incidents, but Israeli sources have not confirmed any of the deaths.
Palestinian leader Yasser Arafat has declared three days of mourning.
The BBC's David Chazan in Gaza says the grief and anger is not limited to Hamas supporters, and further attacks and suicide bombings appear inevitable.
In the first reaction from the US, the State Department appealed for calm. A senior official urged all sides to show restraint.
UK Foreign Secretary Jack Straw said the killing of an elderly man in a wheelchair was "unjustified" and "very unlikely to achieve its objective".
France also condemned the assassination, and European Union foreign policy chief Javier Solana said it was "very, very bad news" for the Middle East peace process.
'Cycle of violence'
Palestinian Prime Minister Ahmed Qurei called the attack on Sheikh Yassin a "dangerous, cowardly act".
Palestinian negotiator Saeb Erekat told the BBC: "This will add fuel to the fire, and the cycle of violence and counter-violence."
He said the only way to stop violence was to "end the occupation of Palestinian territories".
Israeli Finance Minister Binyamin Netanyahu said that even if a harsh response from Hamas was likely, the long-term effect of the killing will be to rein in militants "because their leaders will know that they will be destroyed".
Military sources told the BBC the attack on Sheikh Yassin was personally organised and directed by Mr Sharon.
At a cabinet meeting last week, formal authorisation was given to attack and kill specific targets Israel says were responsible for the twin suicide attack in the port of Ashdod on 14 March that killed 10 Israelis.
The BBC's Wyre Davies in Jerusalem says the decision to target such a high-profile figure is a significant move and Israel is likely to be on high alert in expectation of a response from Hamas.
Israel has warned on many occasions that it would target the Hamas chief after the militant group killed scores of Israelis.
A few months ago, they narrowly missed him after firing on a house where he had been having lunch with fellow Hamas members a short while earlier.
Israel sealed off the West Bank and Gaza Strip after the killing, barring Palestinians from entering the Jewish state.