KiwiRail had requested an additional $1.47 billion, a component of which had been agreed to in-principle by the previous government, to address cost escalations related to associated harbourside infrastructure in Wellington and Picton, including to accommodate new larger ferries.
To date, $435.1 million of Crown funding has been assigned for the Inter-Island Resilient Connection (iReX) project of which about $63 million remains.
In a statement, KiwiRail chairperson David McLean said the board was advised of the government's decision on Tuesday.
"The board will now oversee the wind-down of the project and review our plans for the Cook Strait connection."
While McLean said they respected the government's role, they acknowledge the disappointment of the team and shareholders involved.
"We sought a strong outcome for New Zealand through this project for a more resilient State Highway 1 across Cook Strait for exporters, domestic freight forwarders, tourism and domestic commuters.
"We will work with the government, our customers, ports and other stakeholders on the way forward."
In a statement, Finance Minister Nicola Willis said ministers, including State Owned Enterprises Minister Paul Goldsmith, would engage with the board and officials about alternative options.
But McLean said an alternative long-term solution could take years to develop.
Willis said ministers were concerned about the cost blowout of the project, which had nearly quadrupled from $775 million to about $3 billion since 2018.
"It is also now the case that only 21 percent of these costs are associated with the core project of replacing ageing ferries.
"Furthermore, agreeing to KiwiRail's request would reduce the government's ability to address the cost pressures that are impacting on New Zealanders, fund other essential projects and get the Crown's books back in order."
But the government remained committed to a "resilient safe and reliable Cook Strait connection", Willis said.
"In the meantime, we expect KiwiRail to continue focusing on providing a reliable ferry service and to prioritise existing services appropriately."
The government would not reveal the size of the tagged contingency set aside for the project in 2021, saying it was commercially sensitive, but it said it would be used to support exit negotiations.
Willis made clear the decision was not a reflection on shipbuilder Hyundai Mipo Dockyard, which was awarded the contracts to build two rail-enabled ferries.
The government said it would be taking advice on understanding how the situation unfolded to inform future decisions.
