Fresh fighting erupted Monday in the southern Philippines as the Red Cross issued a funding appeal to help more than 500,000 people displaced by the decades-old Muslim separatist insurgency.

Two air force aircraft dropped bombs near the town of Datu Piang in Mindanao island after Moro Islamic Liberation Front (MILF) rebels fired on a military helicopter, said the head of an army brigade in the area.

About 50 MILF rebels "fired at our air assets, (and) that triggered the air strikes," said Colonel Marlou Salazar.

Local residents reported shrapnel from the bombing killed four children, said Mosib Tan, the municipal administrator.

Salazar rejected the report, telling journalists: "Those who claimed there were children fatalities were not in the area, (there were) no civilians there except government troops and MILF rebels."

Army ordnance experts disarmed two improvised bombs elsewhere in Mindanao, one planted outside a hospital in Tacurong city and another at the public market in Isulan town, Salazar said.

"Nobody claimed responsibility," Salazar said, but he added it could be part of the ongoing MILF campaign.

Clashes between government troops and MILF has reached its worst point in five years, according to the International Committee of the Red Cross.

"They (MILF) have splintered into smaller units and are evading government troops, and we anticipate that they might resort to terroristic acts or guerrilla (warfare) in small and splintered formations," Philippine military chief General Alexander Yano told reporters in Manila.

Fighting broke out in Mindanao island on August 10 after the Supreme Court blocked a draft peace agreement intended to create a political settlement to four decades of sectarian bloodshed.

Manila has effectively suspended peace talks with MILF while offering a 25 million-peso (535,331-dollar) bounty for three senior rebel leaders accused of leading the raids.

Mosib, the municipal administrator, said several thousand residents had left Datu Piang since late Sunday after MILF guerrillas slipped into a nearby village.

The Red Cross has said "up to a half a million people have been affected," with many forced to flee their homes.

The Red Cross said Monday it would need more funds to help up to 80,000 people a month since the agency's yearly budget of seven million dollars for the nation has nearly been exhausted due to the conflict.

"This budget extension appeal is mainly to cover the cost of relief items that we are going to distribute," as well as to boost Red Cross staffing in the area, said its deputy director for international operations, Dominik Stillhart.

The Red Cross has also asked the government and MILF to allow it access to displaced civilians, many of them sheltering in poorly-provisioned camps.

The conflict has "generated very serious humanitarian consequences," with many people needing help since they fled with nothing, Stillhart said.

The Red Cross was particularly concerned about attacks on civilians, and volunteers on the ground were trying to document these incidents, he said.