Abstract. Systems of intergovernmental grants change over time. We explain this observation in terms of political and economic shocks in a noncooperative game between federal and provincial governments. The effects on the equilibrium grants structure arising from political disagreement, fiscal burden, increased revenue instability, and federalistic behaviour are examined. Our results provide a new theoretical perspective on grants. We show that the role of matching grants may be to influence the pattern of social spending by provincial or state governments, while conditional lump-sum grants are used simultaneously to determine the composition of the tax burden across the levels of government.