Aljazeera's correspondent said Minister of State Kasim Daud, speaking in Najaf on Thursday, spelt out "final-hour conditions" that he said the Shia leader had to meet and warned that "military action is imminent".
In Daud's words, the Shia leader had to announce in person at a press conference that he would dismantle the al-Mahdi Army.
Al-Sadr had also to disarm and hand over all light and heavy weapons belonging to al-Mahdi Army militiamen in different Iraqi governorates to the police and national guard at special centres for receiving these weapons.
Additionally, the Shia leader had to submit names of all people tried by his religious courts and release all detainees, including Iraqi police, soldiers and national guardsmen, "otherwise the coming hours will be decisive".
"We have been preparing for a military offensive for five days to put an end to this crisis," Daud said.
Responding to the ultimatum, an al-Sadr spokesman said the Shia leader wanted to negotiate arrangements to implement government demands to end his uprising.
Fighting has continued in Najaf,
straining hopes for a peace deal
"Sayyed Muqtada requests a negotiator to agree on arrangements to implement the demands," Shaikh Ahmad al-Shaibani said.
But in his address, Daud said the government had exhausted all peaceful means to deal with al-Sadr.
He pledged the shrine would be liberated, but declined to say whether the goverment would storm it.
Also on Thursday, the Iraqi Government charged al-Sadr with trickery and failing to act on a promise to disarm, and abandon the shrine.
"Actions speak louder than words. We've made our position very clear that he must leave the shrine and dissolve his army, but still the situation is unchanged"
Interior Ministry spokesman
"Really, actions speak louder than words. We've made our position very clear that he must leave the shrine and dissolve his army, but still the situation is unchanged," said Interior Ministry spokesman Sabah Kadhim.
"We've had these kind of tricks before and the Iraqi people will not be deceived," Kadhim said in Baghdad. "He has not done what he said he would do."
Earlier, at least five loud explosions rocked Najaf's Old City area where al-Sadr and his al-Mahdi Army fighters have dug themselves in.
Witnesses said intermittent sniper fire could also he heard coming from the area on Thursday.
Mortar blasts boomed across the strife-torn city and sporadic gunfire was exchanged between the fighters and US occupation troops, medics said.
On Wednesday, al-Sadr said his fighters would disarm and leave the Imam Ali shrine, but only after a truce was agreed with US marines encircling the city.
Meanwhile, one US marine was killed in Najaf on Wednesday while conducting security and stability operations, a US military statement said.