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By Jim Christie

SAN FRANCISCO, Jan 15 (Reuters) - California Gov. Arnold Schwarzenegger said on Thursday the state "faces insolvency within weeks" and that he will put new policies on hold until there is a deal with lawmakers to close the budget gap, which will top $40 billion over the current and next fiscal year.

"It doesn't make any sense to talk about education, infrastructure, water, health care reform and all these things when we have this huge budget deficit," Schwarzenegger said in his annual state of the state speech.

The speech stood in sharp contrast to his previous state of the state addresses. It was short, blunt and focused on the urgent task of balancing the books of the most populous U.S. state and nation's biggest issuer of public debt.

In prior years he used the address to propose ambitious plans to overhaul the state government and to call on lawmakers to join him in rallying voter support for significant spending to improve and expand California's public works.

But now California faces a recession-driven decline in revenues pushing its current budget into a deep deficit and opening another massive shortfall in its next budget.

The housing slump's ripple effects have finally spread across California's economy and the mortgage market turmoil that put Wall Street on its heels is slashing into the state's revenues. California relies heavily on personal income taxes so its coffers swell in good times and run thin in lean times.

The Republican governor and Democrat-led legislature are at adds over how to fill the current year's budget shortfall and are poised for a struggle to balance the budget for the state's next fiscal year, which begins in July.  Continued...