A man deliberately drove into pedestrians, killing three and injuring at least 20 in the centre of Australia's second largest city Melbourne on Friday, but police said the lunch-time incident was not terror-related.

Video footage from a witness showed a maroon coloured car driving around in circles in an intersection outside Flinders St railway station in the city's central business district, with the driver hanging his arm out the window.

Two people approached the car, apparently trying to stop it.

"He was half hanging outside the car...he was just so reckless...he just didn't care," witness Laura Pollson told the Australian Broadcasting Corp.

The man then drove up a pedestrian mall, deliberately ploughing into people, Victoria state police said. A shop video showed several people diving into a convenience store as the car sped along the footpath.

"A male deliberately drove into pedestrians in the Bourke Street mall, and we currently have three deceased and at least 20 injuries," Victoria Police acting commander Stuart Bateson told reporters.

"We have the offender in custody. There is no further threat to the public at this stage. I can also confirm that this is not a CT (counter-terrorism) related incident."

The incident was believed to be related to an overnight stabbing in the city, Bateson added.

Photographs published by local media showed a stationary, badly damaged car with a nearby man in red underwear pinned to the ground by police.

Witness Maria Kitjapanon told Melbourne's Age newspaper that the car was rammed by a police car and that police fired shots into the car before pulling the driver out.

"There were probably 10 police surrounding that guy's car, with guns drawn, and they fired into the car. Then they dragged someone out via the passengers side, then all 10 of them sat on top of him," she said.

Police have locked down the city and suspended tram services.

Melbourne is currently hosting the Australian Open tennis grand slam and is packed with thousands of extra tourists, only a few blocks from where the incident occurred. Police said the tennis tournament continued to operate as normal.

Australia, a staunch U.S. ally, has been on heightened alert for attacks by home-grown radicals since 2014 and authorities have said they have thwarted a number of plots. There have been several "lone wolf" assaults, including a 2014 cafe siege in Sydney that left two hostages and the gunman dead.