The attack happened in a market area of Khan Bani Saad, a predominantly Shia town around 20 miles (30km) from the Iraqi capital.
Several buildings were brought down by the force of the explosion, crushing many people to death.
Among the casualties were 15 children and 120 people have been wounded.
ISIS, which has seized control of some areas of Iraq, claimed responsibility for the attack and said it was targeting the Shia Muslim population.
It came on the eve of the Eid al Fitr holiday which marks the end of the Muslim fasting month of Ramadan.
Raad Fares al Mas, a member of the Iraqi parliament, said: "The explosion was big, it caused a lot of damage."
A local police chief, Ahmed al-Tamimi, said the attack was "devastating" and added: "Some people were using vegetable boxes to collect children's body parts."
Sunni Muslims began celebrating Eid al Fitr on Friday, a day before Iraq's majority Shia community.
Markets are usually packed in the days before the holiday as people preparing for large family gatherings shop for food and clothes.
The UN says 15,000 people have died in the ongoing violence in Iraq in the 16 months to 30 April this year.