FREDERICKSBURG -- A deteriorating economy and new spending demands could cause Virginia's budget shortfall to swell to $3.5 billion, or $1 billion more than Gov. Tim Kaine projected last month, according to an analysis presented Thursday to the Senate Finance Committee.

Committee members said the severity of the shortfall likely will force cuts to essential state programs such as public schools and health and human services, which largely have been spared in earlier rounds of budget reductions.

The grim prognosis, delivered during the panel's annual retreat in Fredericksburg, echoed warnings issued earlier this week by members of the House Appropriations Committee. Most members of the Senate attended Thursday's session.

"We need to take a close look at all agencies and programs," said Sen. Charles Colgan, D-Manassas, chairman of the Democrat-controlled committee. "Anything and everything must be on the table."

Lawmakers earlier this year passed a $77 billion budget for the two-year period that ends June 30, 2010.

Kaine announced last month that he expected general fund revenues to fall $2.5 billion short of projections. He called for spending cuts and other savings measures and proposed taking $400 million from the state's "rainy day" reserve fund to balance the budget for the current fiscal year. But the governor and lawmakers have acknowledged they face more difficult decisions for the second year of the budget cycle.

Senate Finance Committee analysts said those decisions have become even tougher because national economic conditions have worsened since Kaine's administration issued a revised revenue forecast last month. The latest national economic forecast by the firm Global Insight indicates the recession will last longer than had been anticipated in October, the Senate committee was told.

In addition, the state may need to come up with about $350 million in additional funding for mandatory or high priority items such as health care programs, public safety and employee health insurance.

Sen. William Wampler, R-Bristol, called the gloomier forecast "a more reasonable estimate of what our revenue situation is."

Kaine will meet again with an advisory panel of economists, business leaders and lawmakers before producing a budget plan in December. Kaine spokesman Gordon Hickey said the revenue projections could change.

"We're not dug in," Hickey said.

Asked how the shortfall might affect his far Southwest Virginia district, Wampler said, "Everybody knows we're going to have to tighten our belts. My local governments are telling me, 'Let us know sooner rather than later so we can plan for it.' "

Sen. John Edwards, D-Roanoke, raised concerns about cuts for health and human services programs, particularly those that serve the mentally ill.

"I'm really worried about the most vulnerable of our society," Edwards said.