Israeli media reports said that a gunman dressed in black had shouted “Allahu Akbar” as he fired at civilians.
The attacks represent a significant escalation in a string of recent shootings, with gunmen targeting a busy tourist area for the first time after previous attacks were carried out in lower-key residential neighbourhoods.
Overnight hundreds of Israeli troops – including special forces units – searched door-to-door for the attacker, who was said to have fled the scene. Some reports said that the shootings were carried out by more than one person.
Police spokesman Baruch Honig said more than 1,000 policemen were deployed in Tel Aviv.
Antony Blinken, the US Secretary of State, condemned the “terrorist attack” and said Washington would “continue to be in regular contact with our Israeli partners, with whom we stand resolutely in the face of senseless terrorism and violence”.
It was not immediately clear who was responsible for the shooting, which came with Israeli security forces already on high alert, but the Palestinian Islamist movement Hamas, which controls the Gaza Strip, and the Islamic Jihad welcomed the attack.
It was the fourth terror attack in Israel in the past two weeks, following a similar attack in a suburb of Tel Aviv last week, which left five people dead.
Prime Minister Naftali Bennett was at army headquarters in the coastal city receiving updates on the fourth attack.
He sent his condolences to the bereaved families in a statement and said that “security forces are in pursuit of the terrorist who carried out the murderous rampage tonight in Tel Aviv”.
“Wherever the terrorist is – we’ll get to him. And everyone who helped him indirectly or directly will pay a price,” Mr Bennett said.
Israeli police urged residents in the area to stay indoors as they searched for at least one attacker.
Magen David Adom emergency service spokesperson Zaki Heller said: “Sixteen people evacuated to hospitals, two dead, four seriously wounded.”
Tel Aviv’s Ichilov Hospital confirmed that two people were killed and “several seriously injured”.