Edin Dzeko's 12th goal of the season put the hosts ahead from close range midway through the first half only for Daniel Sturridge to smash home his fourth in six matches since his move from Chelsea.
An even better trademark Steven Gerrard strike put Liverpool ahead with 17 minutes to go only but Sergio Aguero salvaged a point with an exquisite shot from the narrowest of angles.
However, it was not enough on a weekend when rivals Manchester United won and the result leaves Roberto Mancini's side nine points adrift of the leaders.
City went ahead in the 24th minute as some neat interplay from David Silva and James Milner from a throw-in on the left saw the latter cross low for Dzeko to sneak behind Daniel Agger and tap home from close range.
If that goal was founded in simplicity Liverpool's equaliser was made of pure brilliance.
Gerrard rolled the ball forward to the former City striker Sturridge who smashed a fierce left-footed shot past Joe Hart. The England skipper put Liverpool ahead in the 73rd minute with a strike very reminiscent of his goal in the 2006 FA Cup final.
Gael Clichy's poor clearance from Jose Enrique's cross dropped to the midfielder 30 yards out Gerrard controlled the ball on his chest before unleashing a dipping low volley into the corner.
Martin Skrtel was introduced for the tiring Enrique and after almost scoring at one end was involved in a mix-up with Jose Reina which allowed City to equalise.
Aguero raced onto Gareth Barry's pass and the goalkeeper's rush of blood saw him charge out to the left edge of his area, from where the Argentina international turned him and fired in impressively from a narrow angle.