Early reports said that the attack occurred at a police checkpoint in Maydan Square near Najaf's old city.
The area is home to the mausoleum of Imam Ali, the holiest site in Shia Islam, and is usually packed with locals and religious tourists.
It also is the site of the headquarters of Grand Ayatollah Ali al-Sistani, the spiritual leader of Iraq's Shias, and Muqtada al-Sadr, whose militia engaged in heavy fighting with US forces in the area in 2004.
Police reinforcements arrived soon after the explosion and sealed off the scene, where blood stains were mingled with charred wreckage.
It was not immediately clear how many police were among the dead.
Other attacks
Also on Wednesday a car bomb exploded in Baghdad near a police commando patrol, killing one policeman, government officials said.
Police in Baghdad also discovered 25 bodies which had been dumped around the city overnight. A further five bodies were found in the northern city of Mosul, including those of three policemen.
The US military also said that a total of two soldiers had been killed and 29 wounded during an attack on Monday against a small US outpost in Tarmiya, north of Baghdad.
During the attack, heavily-armed fighters - possibly from al-Qaeda - attacked the small US base with rocket propelled grenades and at least one carbomb.