Let's look forward 10 years. Who will win the coming battle for Third World dominance - India or China?

I recently spent a month in India, visiting its most important IT companies. Right now, India is clearly winning the software war, producing more and better industrial-strength software. India is famous for its call centers, but its software goes even further - a ton of first-rate code is being written in Bangalore and other high-tech Indian cities. Infosys Technologies in Bangalore hit $1 billion in revenue last year and other players, such as Tata Consultancy Services and Wipro, are big league. Pretty much every big U.S. IT shop has a relationship and/or development center in India, including Microsoft and GE. India's advantage: English as the national language, a terrific university system and an enviable work ethic.

But there is a soft underbelly to India's success: Its costs are rising rapidly, and 10 years from now India might not be the low-cost development center it is today. Indian software program managers were getting paid $6,000 back in 2000, but those same jobs today command $30,000. Yes, India is still inexpensive, but for how much longer?

One issue that major Indian firms want to look into is the writing of proprietary software - software that they own and which can be resold again and again. The idea is to begin by doing software maintenance, then writing specialized code for one client, then taking that expertise and turning it into a profitable product. The venture capitalists are investing now, not for the outsourcing, but with the idea that they will have a seat at the table when the Indian software business begins. One unresolved issue in India is open source - Indian companies are still on the fence as to whether this area deserves their full attention. But developing software packages is definitely on their minds - in short, they want to get paid for their brains, not their body (shop).

This is trickier than it looks. Years ago, Andersen Consulting tried to do the same thing with a product called Foundation and failed miserably. But Digital Equipment took code it had created for DuPont and turned it into the successful All In One office-automation product, forcing even IBM to rock back on its heels. The Indian IT companies know that right now they win business because their code is 20% to 50% less expensive than code written in the U.S., but their real added value is going to be better-packaged software. They aren't there yet, but they see it on the horizon. One company, Symphony , now only wants projects that are "technologically challenging" - because they believe that at this level price is less important, margins are higher and they will be able to attract and retain the best people. Turnover is a big problem in the Indian high-tech community, which resembles Silicon Valley circa 1998.