The U.S. Supreme Court declined yesterday to stop the government from discarding a set of rules that forced regional phone companies to lease their networks to rivals at deep discounts -- prompting AT&T Corp. to consider abandoning local service in two markets by the end of the week.

AT&T officials declined to identify the states or elaborate on their plans, which were outlined by sources familiar with the discussions. The long-distance giant was one of more than two dozen phone companies that had asked Supreme Court Justice William H. Rehnquist on Thursday to keep the rules on the books while they appeal a lower court's finding that the regulations were improper.

The Supreme Court declined, informing lawyers yesterday that it would not intervene in the case.

AT&T and the other phone companies say they depend on the rules to offer local phone service in regions where they must compete with giants such as Verizon Communications Inc. and BellSouth Corp.

The Supreme Court's decision is "not surprising given the Bush Administration decision to abandon the litigation," said AT&T spokeswoman Claudia Jones in a statement e-mailed to reporters. "This confirms that the Administration has set the industry on a path to higher prices, less competition, fewer jobs and depressed investment."

Federal Communications Commission Chairman Michael K. Powell said his agency would begin to work on a new set of rules that would conform to the lower court's ruling. In a prepared statement, he said the chief executives of every major regional phone company have agreed to hold off on any rate increase until next year.

But AT&T and other competitors say the prospect of rate increases will hinder their ability to market the service to new customers and they hinted they may highlight the issue in states key to deciding the presidential election. "If wholesale rates go up, we will have to look at raising rates or pulling out of markets, or possibly both," said MCI Inc. spokesman Peter Lucht.

Competitors estimate that they now serve a total of 19 million telephone lines with the discounts permitted under the rules.

As the government prepares to draft new rules, Powell repeated his earlier pleas urging both sides to negotiate agreements among themselves. "I also strongly encourage carriers to find common ground through negotiation," Powell said. "Commercial agreements remain the best way for all parties to control their destiny."

Once the current rules expire, the major phone companies still must seek the approval of state regulators before they raise rates. There is no deadline on the states to complete their review of the rate hikes, an FCC official said yesterday. In addition, individual contracts between companies often call for a 90-day period of negotiation if a change in the law alters the regulatory landscape.

In the meantime, AT&T and the other competitors say they will continue to seek a Supreme Court review of the appeals court's ruling.

FCC Chairman Michael K. Powell said the agency will begin work on a new set of rules that will conform to the lower court's ruling.