After years of argument over how to ease congestion around the stone circle in Wiltshire, ministers said they had decided that a tunnel would cost too much.
Environmental campaigners, road groups, archaeologists and druids who worship at the site have argued for decades over how best to protect it from the thousands of cars that pass each day on two busy roads.
Built between 3,000 and 1,600 BC as a temple, burial ground, astronomical calendar or all three, the stone circle has been described as "Britain’s pyramids".
Thousands of revelers and druids converge there on the summer solstice — the longest day of the year in the northern hemisphere — to watch the sun rise.
Transport Minister Tom Harris said he could not justify spending 540 million pounds on a 1.3 mile tunnel, adding: "(It) would not represent best use of taxpayers’ money."
The Liberal Democrats said the decision not to divert traffic was made after a "decade of dither and delay" by the government and could damage Stonehenge.
"It puts a UNESCO World Heritage site at risk of damage from the ever-increasing volume of traffic," said the party’s Arts and Culture spokesman Dan Rogerson.
English Heritage, the public body which looks after the site, said the decision not to build a tunnel was a "huge disappointment".
David Holmes, chairman of the RAC Foundation, a motoring charity, said: "The government has condemned Stonehenge to further environmental damage and the A303 (road) to chronic congestion."
But campaign group Save Stonehenge, which opposes the tunnel, welcomed the decision, saying: "Christmas has come early".
"No one with any sense wanted a tunnel, a flyover, a dual-carriageway, and two whacking great interchanges here," its spokesman Chris Woodford said. "It’s just not acceptable to build 1950s-style motorways in places like this any more."