I. Introduction

Since the Federal Communications Commission's Above 890 and Carterfone decisions, American telecommunications regulators have permitted greater competition in service and equipment provision that has driven many prices to levels more consistent with un derlying costs. While generally efficient and beneficial to many customers, the process has nonetheless reduced the ability of the public network to finance universal service and lifeline subsidies and to recover undepreciated capital costs.2 As competiti on and technology continues to evolve in the next decade, these pressures will increase yet more. The public network may increasingly resemble the economists' underfinanced public good; it will continue to serve as the channel of last resort to interconne ct users who do not have alternative means of interconnection, but groups of related users may nonetheless have incentives to interconnect over private networks that do not have subsidy requirements.

Reform could follow two avenues. First, regulators may attempt to prescribe (or implement rules that would generate) more efficient prices in the local exchange where subsidies are required. Alternatively, network services and related customer-owned eq uipment can be taxed in some fashion to recover necessary subsidy amounts. We shall now compare the various options.