Even as the national economy manages to stay above water, the local picture is more complex. A number of states are starting to bounce back while other local economies remain under duress. Compared to a year ago, the employment picture has gotten even worse in 26 states, while conditions have stayed the same or improved in the other states. For many distressed states and cities, conditions may soon improve, while in other areas, conditions may worsen yet further.

To get a sense of the relative levels of distress, we can look at recently-released state unemployment rates.

These 12 states have double-digit unemployment rates, and only Michigan and South Carolina have made any real progress. Michigan has been very aggressive in attracting new industries such as advanced batteries, and is also benefiting from a modest rebound in auto production. Many of those new jobs have not yet come online as factories are only being built, but Michigan could benefit from a virtuous cycle where each new job creates ancillary employment in businesses that service employees of those new factories.

Four out of 10 states with the highest unemployment rates reside in our nation’s Rust Belt (Michigan, Indiana, Illinois and Ohio). And the only real panacea for these states is a rebound in the industrial sector. Yet that’s not likely to take place unless the United States can materially boost exports. And much of that is dependent on a weaker dollar, which would also boost domestic consumption as imports become relatively more expensive.

Yet in places like Nevada and Florida, no clear panacea exists. Nevada’s building boom was so extensive that it will take a very long time for economic activity to rebound. Las Vegas, the heart of the Nevada economy, will never again see the day when it only had to worry about Atlantic City for a gambler’s dollars. Casinos have been built in so many states that the industry is over-saturated. [See: The Hot Stock in the New Mecca of Gambling]

California’s 12.4% unemployment is especially vexing, as that state’s economy is as large as that of many European countries. The cost of doing business in California remains quite high, so companies looking to build a new factory or headquarters are likely to look elsewhere.

Crippling debt
States’ ability to rebound is also tied to their fiscal picture. States running large budget deficits face no choice but to lay off many public employees, especially as support from Washington will wind down next year. And in state capitals where public sector employment dominates the landscape, many other businesses will need to pare payroll as they’ll have fewer customers.

#-ad_banner-#The Center on Budget and Policy Priorities (CBPP) notes that states ran a cumulative deficit of $129 billion in fiscal (June) 2010, and that figure is expected to rise to $144 billion in the fiscal year that began July 1st. Fiscal 2010 deficits would have totaled $192 billion were it not for the federal support. December 31st looms large for many states. That’s when federal funds that have been earmarked for state-level Medicaid support will end. Some expect Washington to provide an extension in support of Medicaid, but that’s no sure thing. And continued federal support for local state budgets looks even less likely beyond the current fiscal year.

States are hoping that an economic rebound will boost tax receipts, but the shortfalls are so large that further belt-tightening will be impossible to avoid. And as the CBPP notes, “budget cuts often are more severe later in a state fiscal crisis, after largely depleted reserves are no longer an option for closing deficits.”

On average, a typical state currently has a 17% budget gap for fiscal 2011 that will need to be closed. A few states have budgets that are in balance, but many states have alarmingly high budget gaps. This table looks at the relative budget deficits of states with the highest unemployment rates. (If Washington does pass another stimulus program, then these shortfalls would be reduced.)

It’s worth noting that three of the Rust Belt states have already enacted very tough budgets and will need to tighten their belts much further. But in many states, further cuts in public employment appear inevitable.

Implications
How and when individual states can get back on their feet is highly dependent on regional factors. Florida’s slump is largely due to a massive housing collapse. Yet Florida real estate prices have fallen so far that as the economy rebounds elsewhere, baby boomers may again be emboldened to buy a home in the sunshine state. That would provide a badly-needed boost to the state government’s coffers. Southern states such as Georgia, Mississippi and South Carolina still have fairly low costs of living, which is why many European and Asian companies choose this region when looking to build new U.S. factories.

Other states will be forced to adapt to a changing world in order to lure businesses. New York State, which has among the highest taxes in the country, is nevertheless making real headway in attracting new clean energy and semiconductor businesses (most notably in the Albany, NY area and NY’s Hudson Valley).

But there is no quick fix. And things will get worse before they get better. The real hope is that private sector employment can expand at a faster pace than public sector employment shrinks. And that’s no sure thing. State employment data are released around the 20th of every month. Keep any eye on these figures during the next few months. Any worsening of the data could portend a major crisis in some of these states, requiring an emergency intervention from Washington, as California needed in 2009.