Intergovernmental financial relationship in a federal state is an important matter. It is considered as the heart of whole federal polity as it affects the very working of the polity. To maintain a balanced financial relationship between centre and units of federation i.e. states is a difficult exercise. Finance being an essential pre-requisite of good government gets to play a more vital role in the governance.
In federal polity, there are two levels of governments having their own various functions therefore it becomes essential for effective working of each government that each of them be conferred with such powers that enable them to raise financial resources of its own. As a result of this, there is need of a distribution of taxing powers between centre and states. Therefore, in a federation along with division of functions there is division of taxing powers between central and the state governments. But however, only allocating taxing powers between state and centre could not result in effectively functioning of the government. The next requirement for proper functioning of a government is a balance ought to exist between the financial resources of the government and its allotted responsibilities and functions. For example, if a government has very less resource to finance, then its power and autonomy will be of no use as it will be unable to carry out its allotted responsibility. A sound federal system would, therefore ensure that financial resources between centre and states are allocated in such a way that there exists a balance, an equilibrium, between the functions and resources equation at every level of government. Also, absence of such balance may lead to bad government and create stress within the federal structure of a nation, resulting to unstable and jeopardize its functions.