THE story of American dominance in world affairs for nearly half a century followed by its relative decline in both political and economic power begins with one public policy decision: the decision by the administration of President George W. Bush to invade Iraq.

What was supposed to be a cake-walk – or a walk by the American soldiers over the red carpets spread by the citizenry of Iraq. The carpets would have been spread by a grateful population who had suffered unbelievable cruelty at the hands of the Iraqi dictator, Saddam Hussain. The American army would have been seen as liberators. This seemed a good script but that was not the way the Iraqi drama was played out. Six and a half years after the American invasion of Iraq, the American troops are still there; still taking casualties, albeit at a greatly reduced rate; still spending $ 10 billion a month with no end in sight as to when this engagement would be brought to an end. There is no doubt that for its war in Iraq, the Iraqis, the Muslim world and America have all paid dearly.

One commentator, David Lenhardt writing for The New York Times, sees a parallel in how America’s world position may be affected with what happened to Britain at the turn of the 20th Century, “toward the end of a brutal and surprisingly difficult victory in the Second Boer War [when] the people of Britain began to contemplate the possibility that their’s was a nation in decline…This crisis of confidence led to sharp political reaction. In the 1906 election, the Liberal ousted the conservatives in a landslide and ushered in an era of reform.

In all probability something similar is likely to happen on November 4 when the American voters are most likely to hand a large victory to Barack Obama, the Democrat, dispatching President George W. Bush’s Republicans into the political wildness.

The notion that America may be in decline has been picked up by some world leaders, most notably Peer Steinbrick, the German Finance Minister “One thing seems probable to me, he said recently, [that] the US will lose its status as the super power of the global financial system”. This comment was made in reference to the economic troubles in the United States that surfaced in the summer of 2007. Then the extent of the damage done to the American financial system by the careless and sometimes venal lending by the banks to home buyers began to get apparent. This lending spree was encouraged by a number of related and unrelated developments. Among them was the prolonged easing of credit at the conclusion of the era of Alan Greenspan who presided over the US Federal Reserve system for almost two decades. That era also saw the relaxation of regulatory control over financial institutions which, in turn, encouraged the creation of complex financial products that had mortgages at their base. In a long chain of transactions with these products rapidly changing hands, saw a variety of institutions sharing responsibility for their management. When it was discovered that a very large number of home mortgages that backed these products could not be serviced, shockwaves were transmitted through the entire system. These have not been fully absorbed; in fact they have been transmitted to many parts of the world, in particular to Europe. Initially it was thought that the contagion would not engulf the emerging markets since they were not that closely integrated with the global system. But that hope did not materialize and some of the more developed emerging markets are now also suffering.

The financial crisis has already brought about one significant structural change. It has resulted in the demise of the investment banking model which allowed the institutions falling in that category to obtain funds from “high net worth individuals” or from the institutions such as pension funds, that had a lot of cash and longer-term liabilities. These investment funds were also allowed to borrow extensively, turning each dollar of their money into 30 to 40 dollars of borrowed money. This high level of leveraging made the institutions highly vulnerable if there was a loss of confidence in their ability to service the debts they had accumulated. And, the institutions worked without much regulatory over-sight. The result of all this was that the investment banks took large risks and provided handsome compensation to their officers who were able to turn risks into the profits.

One other development needs to be noted in understanding the way the American financial system went off the track. This was the highly asymmetric distribution of global savings. While America did not save at all and Europe saved only very little, China and other countries of East Asia as well as the oil-exporting states of the Middle East put away large sums of money. These were either deposited in the US treasury which made it possible for America to run large fiscal deficits and current account deficits. More recently the world’s capital surplus countries have set up sovereign funds which are being used to buy assets all over the globe. Vast amounts of money are available with these funds and once they are put to use they will bring about an enormous redistribution of assets and income in the world.

This is not the first time in recent American history that its economy has appeared precarious and uncertain. In the mid-1970s many historians felt that the extraordinary economic advance of Germany would challenge and possibly bypass the United States. In front of the new Germany, America appeared old and decrepit. New technologies and new products were coming out of the German factories and were being eagerly bought by the American consumers. But the German revolution lasted for less than two decades. The country was unable to fund a solution to its demographic population and a point was reached at which the number of dependents per able worker began to increase significantly. The next fear came from Japan in the 1990s when its highly innovative automobile and electronic industry over whelmed the American manufacturers.

But Japan, some what similar to what has happened more recently in the United States, first developed its real estate bubble and then denied the depth of its economic problems. It took more than a decade to bring the economy back to equilibrium. Will the same happen in the United States? Is the American economy entering a phase of long-term decline? Would it be replaced by some other economies who will take the leadership position in the global economic order?

It is hard to predict as to how the current economic crisis in the US and Europe will play out with respect to their relative positions on the totem pole. Whether they will slip down the pole, allowing countries such as Brazil, Russia, India and China – the countries generally referred to as the BRICs -- climb up and take their positions above those of the United States and Europe is hard to predict. That said, it is certain that both America and Europe will lose their prominent positions in the institutional structure that supports the global economic system. After some initial resistance, the US President has agreed to chair a meeting of large economies being referred to as over Britton Woods II, the repeat of the conference held in 1944 when 44 victorious states in the Second World War gathered to create an international architecture for managing the global economy.

One thing can be said with certainty, the system that would emerge from the proposed conference will diminish the prominence of the US as a global economic super-power and increase that of the rapidly developing economies in Asia and Latin America. Unfortunately Pakistan will not be one of the countries that will be able to improve their relative position.