Fitch Ratings warned in a special outlook on Monday that the impending tax increases and federal spending cuts that make up the U.S. "fiscal cliff" pose the most significant credit risk to states in 2013.
"The risk that the fiscal cliff presents to the overall economy is the biggest concern for state credit, as state revenue systems quickly reflect changing economic conditions," said Laura Porter, managing director at the rating agency, in a statement.
Washington's attention has recently focused on the tax section of the cliff but political leaders in states, cities and other parts of the public sector are growing increasingly alarmed about the spending side.
The automatic spending cuts set to take effect early next year are spread throughout the entire federal budget. This would slice funds for states, many with revenues still bruised by the 2007-09 recession, and programs such as Medicaid that states operate with federal reimbursements.
"Decisions that shift cost of services from the federal to state governments, while requiring the states to provide the same level of services, would be most concerning," the report warned.
(Reporting By Lisa Lambert and Caryn Trokie; Editing by Chizu Nomiyama)