There is the old story about an American and a Chinese being chased by a tiger, where the punch line is the Chinese telling the American: “I do not have to run faster than the tiger-I only have to run faster than you!”

Think of the tiger as the global financial and economic meltdown and one can see in this a parable for the shift in economic power from the USA to China.  But not quite as yet.  In the immediate future the fortunes of the USA and China are tied together mainly because of the vast Chinese holdings of US treasuries and other assets (estimated to be about one-tenth of US public debt).  So the parable must be modified to tie the two travelers at the ankle and making it a three legged race where the two have to coordinate their movements perfectly or else both will be consumed by the tiger.

But what after the crisis has been resolved?  Will we see a shift of power from the USA to some other part of the world, the most plausible candidate being China? What does it mean to say that power has shifted from one part of the world to another? 

The answer does not lie in jejune projections of exponentials showing massive numbers for GDP.  What matters is asymmetric dependence.  If what I do affects you less than what you do affects me, then, in some sense, I am dependent on you.  Today the USA is the dominant economic power because the rest of the world, including China, depends on access to its markets, its financial infrastructure and its technological capacity more than the USA depends on them.  Will the crisis change this pattern of dependence?

A lot depends on how long the current recession lasts.  If it is more or less over by the end of the year we may start 2010 more or less back at square one.  In fact Niall Ferguson’s  narrative argues that the rest of the world will fare even worse than the USA, which will come out with its relative power unaffected.   But what if the downturn lasts longer, say four years or more as some expect?

The dominance of the USA in the trading system has been reduced for some time now. In sectors like automobiles and telecommunications we already see a mutual dependence because of the vast growth potential in China and India and, in the reverse direction, the emergence of these countries as low cost supply sources.  A long recession may weaken this link; but it may well strengthen the link between Asian countries as they look to each other’s markets to replace the lost potential in the USA and Europe. Already intra Asian trade accounts for half the trade flows in the region. More than that, the recovery from recession, even for the West, may well depend on a strong demand pull from China and, possibly, India.

Global financial flows have been shaped by the huge surpluses in East Asia and the Gulf and the massive US deficit.  A long recession will clearly change this as the US deficit contracts and the windfall gains from high oil prices disappear.  When we come out global financial flows may resume, driven now by the search for returns.  Will the USA retain its status as the principal centre for financial intermediation?  Will London or Frankfurt or Tokyo challenge the position of New York as the centre of global finance?

By all accounts the European and Japanese financial institutions are badly affected with many in intensive care.  Dubai, Singapore and Shanghai may be physically closer to the huge oil and East Asian surpluses.  But they lack the depth and breadth of professional financial talent that would allow them to challenge New York.  As for the prospects for our own Mumbai, only the blindest and kindest of maternal instincts would see any serious potential.  The only possibility of a major shift is if Europe comes out of the long recession quicker, runs deficits with a liberal trade policy so that a Euro glut emerges and the professional capacities available in London, Paris and Frankfurt help the Euro to challenge the dollar as the preferred international currency.  But all this looks a little unlikely with fiscal conservatism of Northern Europe constraining the freer Southern spirits.

What about technological capacity?  This is perhaps the most important source of US economic power.  A long and deep recession will surely affect corporate spending on R & D.  But more than that, it may disrupt the venture capital ecosystem that depends on a steady deal flow from innovations, serial entrepreneurship and low cost risk capital.  The USA also depends heavily on foreign born talent for its research system.  In 2005, foreign students on temporary visas accounted for 28% of master’s degrees and 36% of doctorates in science and engineering awarded by US universities.  Will these Indians and Chinese (who account for most of the foreign students in this category) stay on in an uncertain economic environment or will they go back to their home countries?

A clue to the challengers on the horizon can be found in the patent statistics.  In 2006, half the patent applications filed came from inventors in Japan and USA.  Germany was third and China a very close fourth.  (India is way behind).  Chinese R & D spending is rising rapidly and was 1.3% of GDP in 2005.  Like the USA, China has a military research programme that provides a solid bedrock for the national R & D system.  But translating R & D capacity into economic power takes not just time but also an ecosystem that can move innovations to the market.  This may take quite some time to evolve in China. 

Where does all this leave us in India.  First, for the next year or two, it will have to accept that the US will recognise its dependence on China and de-hyphenate it from India, particularly, if, as Niall Ferguson suggests, a diarchy emerges to run the world economy.  In the medium term, start looking to the East at least for trade.  In the longer run build technological capacity, stimulate creativity and venturesome entrepreneurship so that we can be Greece to China’s Rome.