Editor's note: The following is the second of a five-part series on government budgets and government spending that comprise the 2012 Keating Report. The topics we are covering include: federal budgets, state budgets, public-private partnerships, local government budget trends and government construction.

Finances have improved since the depths of the recession, but states still face a tough fiscal situation, according to a report released in late November by the Washington-based National Governors Association (NGA) and the Denver-based National Association of State Budget Officers (NASBO). "The Fiscal Survey of States, Fall 2011" notes that even as states struggle with lukewarm revenue growth, they will be called on to spend more because of the economic distress caused by continued high unemployment.

"State budgets are certainly improving; however, growth is weak, and there is not enough money for all the bills coming in," said NASBO Executive Director Scott Pattison. "State officials will still be cutting some programs, and increases in funding for any program except for health care will be rare."

Indeed, according to the Washington-based Center on Budget and Policy Priorities (CBPP), at least 20 states have reported that tax collections for the current fiscal year will exceed the amount expected when their budgets were adopted last spring. A majority of states, however, have enacted major cuts in important public services.

"It is good news that revenues are growing again at the state level," says Elizabeth McNichol, a senior fellow at the CBPP. "We estimate that it would take seven years at the 2011 growth rate for state revenues to get back to the pre-recession growth track — they have seemed to hit bottom and are emerging from a very deep hole." Temporarily boosting rates on income taxes and other broad-based state taxes, and closing loopholes may bring relief, McNichol says.

"States will face considerable fiscal challenges in 2012," says Sujit CanagaRetna, senior fiscal analyst for the Atlanta-based southern office of the Council of State Governments. "Notwithstanding the significant economic obstacles that have confronted states in the aftermath of the Great Recession, there are a number of bright sparks on the state economic landscape that offer optimism for a self-sustaining recovery. These bright sparks include a panoply of projects involving solar, wind, biotech, auto industry, aviation and export-led industries that have the potential to generate more broad-based, sustained growth at the state, regional and national levels."

Gaming and sports betting are potential revenue sources that more states will look to tap in 2012. In 2011, legislators in Florida, Illinois and Massachusetts debated the wisdom of permitting new destination casinos in major cities, such as Chicago and Miami.

Legislators in Maine are pushing to establish a regulatory framework to guide the expansion of gambling in that state. Voters in November, however, rejected proposals that would have allowed slot machines at harness racing tracks at two sites. Voters also defeated a proposal that would have allowed a casino in Lewiston, Maine. Making online gambling legal would yield $42 billion in added tax revenues for governments over 10 years, according to a New York Post estimate.

View additional installments of our 2012 forecast as well as the 2011 Mid-Year forecast.

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