The civilian crowd near the Sule Pagoda, end point of monk-led protest marches this week, was awaiting the arrival of a procession of an estimated 10,000 Buddhist clergy and civilians, witnesses said.
Security forces also fired tear gas at columns of monks trying to push their way past barricades sealing off the Shwedagon Pagoda, Myanmar's holiest shrine and the starting point of the mass marches against decades of military rule.
At least two witnesses saw the bloodied body of a monk being carried away after security forces stopped a procession. It was not clear what his condition was.
The protests started last month with a few small marches against shock fuel price hikes, but quickly mushroomed into a major revolt after shots were fired over protesting monks in the central town of Pakokku.
World leaders have appealed for the junta to exercise restraint, and before Wednesday the generals had appeared reluctant to risk a repetition of a 1988 crackdown when troops opened fire on protesters, killing an estimated 3,000.
As many as 200 maroon-robed clergy were arrested outside the gilded shrine as the Buddhist priesthood, the former Burma's highest moral authority, went head-to-head with the might of a military that has ruled for an unbroken 45 years.
"This is a test of wills between the only two institutions in the country that have enough power to mobilise nationally," said Bradley Babson, a retired World Bank official in Myanmar.
"Between those two institutions, one of them will crack," he said. "If they take overt violence against the monks, they risk igniting the population against them."
Despite the presence at key locations of police and soldiers armed with rifles, batons and shields, the procession of 10,000 monks and civilians marched towards the Sule Pagoda, witnesses said.
Their numbers swelled as they headed towards the temple, scene of some of the worst bloodshed in the 1988 uprising.
Many of the monks wore surgical masks to try to counteract the effects of tear gas and smoke.
Others were beaten and manhandled by riot police as they were taken away from the Shwedagon, action which could inflame public anger against the generals.
Despite the defiant column heading towards Sule, the number of monks was well below levels on Monday and Tuesday when they stretched five city blocks chanting "democracy, democracy" with no visible security presence.
Then, they defied junta warnings that military force could be used against illegal protests and a senior general telling top monks to rein in their young charges or face the consequences.
The reduction in numbers on Wednesday might be explained in part by the generals sending troops and riot police early in the morning to at least six big activist monasteries in Yangon.
The generals waited until evening on Tuesday to deploy soldiers and riot police in Yangon, a city of 5 million, and Mandalay, the second city. Both were also put under a night-time curfew.
However, they also rounded up more prominent dissidents, including comedian Za Ga Na, who had joined the monks on Monday in urging people to take to the streets.
One well-placed source told Reuters that detained democracy icon Aung San Suu Kyi had been moved to the notorious Insein prison on Sunday, a day after she greeted monks in front of her lakeside Yangon home. The report could not be confirmed.
Residents in the northwest coastal town of Sittwe, which has seen some of the biggest crowds to date, said 10,000 people and a few hundred monks were on the streets on Wednesday, the Buddhist holy day.
The escalating tension in the Southeast Asian country formerly known as Burma gripped the annual U.N. General Assembly in New York, where world leaders -- mindful of the 1988 violence -- called on the junta to exercise restraint.
US President George W. Bush, in a speech to the assembly, called on all countries to "help the Burmese people reclaim their freedom" and announced fresh sanctions against the generals, their supporters and families.
The 27-nation European Union said it would "reinforce and strengthen" sanctions against Myanmar's rulers if the demonstrations were put down by force.
The UN human rights investigator for Myanmar, Paulo Sergio Pinheiro, said he feared "very severe repression".
"It is an emergency," he said, singling out China as a regional power that could play a "positive role" in defusing it.
China, the closest the junta has to a friend, has been making an effort recently to let the generals know how worried the international community is, a Beijing-based diplomat said, although it has refrained from public pressure.
Representatives of Myanmar's pro-democracy and ethnic groups told Reuters Chinese officials have been meeting quietly with them behind the scenes for months.
(Additional reporting by Darren Schuettler in Bangkok)