This week we can expect President Obama to speak to immigration reform and a new immigration proposal to be unveiled in the Senate. I have discussed in this blog the importance of creating a U.S. Startup Visa for high skilled immigrants—but only in the context of America’s loss. We take a look today on what America’s loss in terms of brainpower and innovation skills means for one nation—India.

In recent years, there has been a growing trend in the U.S. of Indian and Chinese highly skilled immigrants leaving to return to their home countries. These returnees are relatively young (35 and 37) and most of them hold Master’s and PhD degrees in management, technology or science. In an often cited Kauffman Foundation study, 56.6 percent of Indian respondents indicated that they would be likely to start a business in the next five years, and 53.5 percent of them believed their best opportunities for entrepreneurship were in their home country. Is the Indian startup ecosystem leveraging the growth engine leaving the U.S.?

Beyond the high-skilled returnees, India of course has locally-trained talent. It is home to some of the most prestigious technology schools, such as the IITs (Indian Institutes of Technology). In 2007, the country doubled the number of engineers who graduated with bachelor’s degrees from 125,000 in 2004. And the numbers have continued to grow. Clearly, there is a strong talent pool for innovation in India, not to mention the market size of this nation of 1.2 billion combined with rising salaries. This presents opportunities for startups to cater to various demands of the growing middle class segment, something where returnees bring valuable experience.

While Indian business remains concentrated among well-connected conglomerates that date back generations, the country has come a long way to support new business creation. Before 1991, the year India began to dismantle controls, lower tariffs and taxes, breaking state monopolies and opening the country to trade and foreign investment, Indian business success was almost strictly a function of licenses, government connections, and an understanding of the bureaucratic system. Reforms since 1991 put this economy among the promising BRIC countries (Brazil, Russia, India, and China). Market liberalization and the IT boom in the late ‘90s lead to significant waves of entrepreneurship in India. Take TV channels; India created over 400 channels in less than two decades. According to 2012 IMF data, India is the 11th largest economy in the world, the third largest in Asia, and the second largest among emerging nations.

Capital for entrepreneurs is still scarce, but a lot of early-stage venture funds have been coming from offshore investors. Once again, returnees bring enormous value to the creation of more elaborate global networks of angel and VC markets. For example, Mumbai Angels started in 2006 with just two investors and today there are 150. Other angel networks are popping up in Delhi and Bangalore. Also, several successful businesses are betting on the development of local technologies and have started incubators as well as venture capital and private equity funds (e.g. Infosys, Wadhawan Group and Wipro). There are also partnership building networks between investors like GSF India and the recently launched GSF Accelerator to offer mentoring and seed funding to tech startups across Mumbai, Delhi and Bangalore.

In terms of innovation, India is still punching far below its weight— something where it can again benefit from young returnees with science PhDs. The 2012 Policy Innovation Index shows that India lags behind Brazil and China in terms of overall innovation—enabling policies that create the conditions in which innovation can flourish. While it fares well in some areas composing the index, such as in R&D tax credits, other dimensions of innovation policy are holding it back. For example, India prohibits foreign investments in real estate, nuclear energy, railways and most agricultural activities, among other sectors. In terms of investments in higher education R&D, India is at the bottom of the Policy Innovation Index rank, with only 0.04 percent of its GDP allocated for this purpose (compared to Brazil’s 0.43% or top-ranking Sweden’s 0.79%). It also ranks well below other countries in terms of fostering local domestic market competition, which is vital to create the conditions in which new, entrepreneurial firms can flourish.

Not all challenges to startups in India will benefit from US returnees. While it is difficult to measure entrepreneurship accurately, let alone innovative entrepreneurship, if you take the number of new firms created per 1,000 workers employed in 2009, India has the lowest among the 55 countries studied in the Policy Innovation Index. By that measure, India created just 0.12 firms for every 1,000 workers employed, compared to 6.30 in China or 8.05 in the UK. Moreover, there is an apparent lack of growth among new business. PricewaterhouseCoopers and the Confederation of Indian Industry estimate that the small firms that exist add only an estimated 3.3 million jobs per year, which is not enough to accommodate the roughly 13 million people entering India’s job market. The 2011 Legatum Institute survey of more than 2,000 Indian business owners and entrepreneurs in turn revealed that big companies are growing faster than small companies. Nearly half (48%) of all companies in India with 500 employees or more grew at a rate of 15% or more from 2010 to 2011, and 26% of those companies were growing at rates greater than 25%. In contrast, only 6% of companies with 1 to 49 employees grew at a rate of 25% or more. We can’t equate small firms with young firms, but this trend is nonetheless indicating that India’s economy is not as entrepreneurial as it could be.

Red tape and corruption might explain some of the low new business creation rates and the apparent lack of business growth among those outside big firm capitalism. By World Bank measures, the cost to start a business in India (measured as the percent of income per capita) is near prohibitive: 46.8 percent of average per-capita income. In terms of the regulatory environment for enforcement of private contracts, 46 procedures are necessary in India, and it takes 1,420 days. This translates into high costs and time-consumption for entrepreneurs. Entrepreneurs also consider the costs of failure, a likely probability for most business startups. In India, closing a business (i.e. resolving insolvency) takes four years. Overall, it is not easy to be an entrepreneur in India. Among the 183 economies studied by the World Bank´s Doing Business project, India ranks 132nd in terms of the overall ease of doing business.

Correcting these inefficiencies will not be easy given the climate of corruption. In the same 2011 Legatum Institute survey, more than 9 out of 10 entrepreneurs said they believe that corruption is a problem in India and approximately 80% of those interviewed believe that the problem is actually getting worse.

Nonetheless, some entrepreneurs are defying the odds and generating pressure for change from the bottom up—and those with U.S. experience in entrepreneur-led startup communities have much to contribute. There are a number of success stories of first-generation entrepreneurs showing that you don’t need to come from a Tata-like empire to build growth companies, such as Infosys‘ Narayana Murthy, Bharti Airtel’s Sunil Mittal and WINIT´s Prakash Sreewastav, who took the entrepreneurial plunge and built fast growing companies from the ground up. The 2011 Legatum survey in fact revealed that the majority of current entrepreneurs (84 percent) perceive India as a good place to succeed, although the younger generation is less optimistic.

Beyond the anti-entrepreneurial incentives embedded in some of India’s policies and regulations, and the need for improvement in physical infrastructure, a big challenge for entrepreneurs in India is attracting talent. Most young professionals still prefer safer jobs at large companies. As a local business expert told ZDNetAsia, even if one percent of the roughly 200,000 engineers currently working in India’s R&D market decide to do something on their own, India would have a significant number of startups. Many call for better education to help prepare emerging young talent to become entrepreneurs and to break the cultural fear of failure. Here again is where returning nascent entrepreneurs from America bring great value.

India must clearly work to put effective regulations and policies in place to enable entrepreneurial and innovative activity to flourish. Its institutions must continue to shift to a new, more sustainable model of growth rather than catering to the needs of the big firms. And more programs like Startup Village, a recently inaugurated telecom incubator resulting from the public-private partnership, can help groom startups.

However, a lack of action in the U.S. on high skilled immigration reform is surely India’s gain. Last week, Canadian Minister Kenney announced his nation will launch its own Startup Visa on April 1, 2013, to recruit foreign startup talent. As startup entrepreneurs increasingly view the world as one market, I hope this week some of the U.S. chatter about “immigration reform” will remind Americans not just of our history as a melting pot, but that this is now an issue of global competitiveness as nations pursue entrepreneurs as net job creators who help grow economies.