Israel has relaxed some restrictions on Palestinian towns
The militant Palestinian group Islamic Jihad - in a faxed statement to Associated Press news agency in Beirut - said the dead man was one of their members and was killed during an attempted ambush.
If confirmed as a suicide attack, it would be the first since Palestinian leader Yasser Arafat called for an end to such bombings earlier this month.
It came as Israel lifted its blockade around the Palestinian-controlled town of Bethlehem on the West Bank following a decline in the number of attacks by Palestinian militants.
Israel, however, said Mr Arafat would not be allowed to visit the town for Orthodox Christmas celebrations on 6 January.
The Israeli army said the Palestinian was killed after approaching soldiers at the Netzarim junction in central Gaza.
He was carrying an assault rifle and an anti-tank missile and had explosives around his waist, according to army officials.
Palestinian hospital sources said the man had been shot by a tank shell.
Drop in violence
Palestinian militants have not carried out suicide bombings against Israel since Mr Arafat publicly urged an end to such attacks on 16 December.
Another radical Palestinian group, Hamas, on Thursday denounced a growing improvement in relations between Israel and the Palestinian Authority and called for an escalation of violence.
Israeli Prime Minister Ariel Sharon said for the first time on Thursday that the Palestinian leadership was making progress in cracking down on Palestinian militants, but said it still had a long way to go.
Arafat banned
On Friday, Israel removed roadblocks around Bethlehem, enabling Palestinians to enter and leave the town freely for the first time in weeks following a dip in violence.
In a similar move, the army lifted its closure of the Palestinian-controlled town of Jericho on Wednesday.
Israel, however, said Mr Arafat would remain confined to the West Bank city of Ramallah, thwarting the Palestinian leader's plans to visit Bethlehem next month.
Israel has said it will not allow Mr Arafat to travel until he arrests the killers of an Israeli Government minister, assassinated by Palestinian radicals in October.
Mr Arafat said Israel's decision restrict his movements was a "dangerous violation" of the Israel-Palestinian peace accords.