With all of the attention placed on federal budget problems, it can be easy to forget that state budgets are facing similar troubles. Since almost every state has some form of a balanced budget requirement, states can be extremely susceptible to swings in the economy, and the recent recession is a perfect example. In an effort to help ameliorate the states' fiscal situation, President Obama recently signed into law a $26 billion state aid bill passed by Congress in a rare August session. The bill, which includes $10 billion in education funding and $16 billion for state Medicaid programs, is expected to save some 300,000 jobs. Still, it pales in comparison to the actual size of the fiscal problem facing the states.

State budgets, which often rely on sales taxes and property taxes in addition to income taxes, took a strong hit when the housing bubble popped and unemployment started rising. Fewer home sales, lower property values, and fewer workers all mean less revenue flowing to the states. At the same time, more Americans are forced to use assistance programs, such as Medicaid, which is funded by states and the federal government. The more people who use these programs, the more they cost. Thus, while state revenues are falling, state budget costs are rising.

This is not an isolated problem. Between the 2011 and 2012 fiscal years, according to the Center on Budget and Policy Priorities, states are facing a collective $260 billion shortfall, with 46 states facing budget shortfalls. Forty-three states have thus far had to cut services to fill in the gaps. These state budget shortfalls are far worse than those during the last recession in the early 2000s.

Meanwhile, the funding provided to the states by the Recovery Act is cresting. While Congress designed the act to last until 2019, most of the money will be spent in two fiscal years – FY 2010 and 2011. Indeed, this past quarter (April through June 2010) was the first to have more money paid out than obligated by federal agencies. This signifies that agencies are awarding fewer contracts and grants, which means the pace of Recovery Act funding has peaked and will slow in the near future.

Declining state revenues and the effective end of Recovery Act funding means states must scale back their budgets. As states run out of money, some services are cut sooner than others. Education, in particular, is an easy target, since it is often seen as less important, and easier to cut, than other social services. For instance, 43 states have cut higher education funding, while only 29 have cut funding for the elderly or disabled. Recognizing trends in state cutbacks, Congress designed the state aid bill as a mix of funding to help states retain teachers and Medicaid to maintain health services for lower-income families.

The state aid bill, however, is far from perfect. The deficit-neutral bill has a variety of funding sources, including a closed tax loophole worth $9 billion. Controversially, though, it takes money away from nutrition funding. The repurposing of the funding means that families could see as much as a $60 reduction in their food stamp benefits in 2014, when the cuts will take effect. While many families will benefit from Congress addressing current state funding shortfalls, many families will also feel the bite of shrinking household food budgets.

Additionally, the state aid bill is only a small fraction of what is needed. The bill's $26.1 billion infusion is only ten percent of the gap states are facing this fiscal year and next, the rest of which will have to be made up through budget cuts or increased taxes. The final bill is less than half of what the president requested a few months ago and what the House originally passed, and it probably will not be able to completely prevent some states from laying off public workers.

Since August 2008, according to the Economic Policy Institute, over 300,000 state and local government jobs have been lost. This state aid bill will do little to help these workers or significantly close state budget gaps, but by pushing more money into the economy, Congress can help state budgets in both direct ways, such as filling budget gaps, and indirect ways, such as increasing state revenues by creating jobs.