Algerian troops have surrounded a gas facility in the east of the country where some 20 foreign workers are being held hostage by Islamist militants.
The kidnappers attacked and occupied the complex at In Amenas on Wednesday, after killing a Briton and an Algerian.
The captives include British, Japanese, US, French and Norwegian nationals.
Algerian Interior Minister Daho Ould Kabila said the militants wanted to leave the country with the hostages, but he had refused to let them go.
"We reject all negotiations with the group, which is holding some 20 hostages from several nationalities," he told reporters late on Wednesday.
"Start Quote
End Quote Daho Ould Kabila Algerian Interior MinisterIt seems [the militants] want to leave the country with the hostages - this is completely unacceptable for the Algerian authorities"
Mr Kabila added that the kidnappers were Algerian and operating under orders from Mokhtar Belmokhtar, a senior commander of al-Qaeda in the Islamic Maghreb (AQIM) before late last year, when he set up his own armed group after apparently falling out with other leaders.
Meanwhile, alleged spokesmen for the militants claim they have kidnapped 41 foreigners. Dozens of Algerian workers are said to have been released.
Border closedMr Kabila said a heavily armed "terrorist group" had attacked a bus carrying workers from In Amenas at about 05:00 (04:00 GMT).
The gas field is operated by the Algerian state oil company, Sonatrach, along with the British oil company BP and Norway's Statoil.
It is located about 1,300km (800 miles) south-east of Algiers, and about 60km (37 miles) west of the Libyan border.
The attackers were repelled by police who had been escorting the bus, but a Briton and an Algerian national had been killed, Mr Kabila said. Two other British nationals, a Norwegian, two police officers and a security guard were also hurt in the fire fight, he added.
Afterwards, the militants drove to the gas facility's living quarters and took a number of Algerian and foreign workers hostage.
They were being held in one wing of the living quarters, which the security services and army had surrounded, Mr Kabila said.
"Since then, they've been facing off. The security forces are consolidating their position around the base," he added.
Early on Thursday, British Foreign Secretary William Hague confirmed that a Briton had died and that "a number" of others were being held hostage.
He described the killings as the "cold-blooded murder of people going about their business".
A worker told France's Le Figaro newspaper the captors had mined the facility and demanded food, water and vehicles.
William Hague: ''No excuse... for cold-blooded murder''
Mr Kabila said nearby border crossings had been closed as a precaution and that the foreign ministry was in contact with diplomats from the hostages' countries.
UK Foreign Secretary William Hague confirmed the captives included "a number of British nationals", adding: "This is therefore a very dangerous situation."
He said the UK government was working "around the clock" to resolve the crisis.
US Secretary of Defence Leon Panetta said he could not confirm the exact number of Americans seized in the attack.
"By all indications this is a terrorist act and the United States strongly condemns these kinds of terrorist acts," he said.
Meanwhile Norwegian Prime Minister Jens Stoltenberg said 13 Norwegian employees of Statoil were believed held hostage at the gas facility. Irish Foreign Minister Eamon Gilmore said one of its nationals was a hostage.
Japanese news agencies, citing unnamed government officials, said there were three Japanese hostages.
'Disastrous outcome'
The BBC's Frank Gardner says there has been a spate of profit-driven abductions in the region
Two groups led by Belmokhtar - the Khaled Abu al-Abbas Brigade and the Signed-in Blood Battalion - said they were behind the incident.
Earlier, a man claiming to be a spokesman for the militants told BBC Arabic that al-Qaeda had carried out the attack.
He claimed that they had allowed Algerian workers to leave the gas facility and were only holding foreign nationals.
A list of demands had been sent to Algerian authorities, and the hostages would be killed if troops attempted to rescue them, the spokesman added.
''Storming the gas complex would be easy for the Algerian military, but the outcome of such an operation would be disastrous," he warned.
There are conflicting reports about the motives behind the attack.
Earlier the AFP news agency quoted one worker as saying the militants had demanded the release of 100 Islamist prisoners currently detained in Algeria. Another report said they wanted France to end its military operation in Mali.
Militant groups have vowed to avenge France's military intervention in Mali, where its forces have been battling Islamists linked to AQIM for the past week. Algeria has been allowing French aircraft to use its air space.
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