Use debugger/monitor to see where that..
"xdata char i=0;"
is stored. I guess it would be in ROM (code memory). This isn't a bug, you usuallly don't want to keep large initialized arrays in RAM. In case you do, there is a compiler switch or memory model that will generate code to copy all initialized data from ROM to RAM. Think twice before you do this.
Your second example...

xdata char i;
i=0;

...is much better choice.