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During the last decade, the two emerging giants within the ‘BRIC’ club delivered blazing growth and increased their influence in the global economy. It was expected that China would become the world’s largest economy within 20 years and India would become the third largest by 2050. However both these countries are currently facing significant challenges, that prohibit them from repeating their stellar performance of the past anytime soon.

China, India: The Slowdown Continues

Last week, the IMF cut the growth rate estimates for both these countries and warned of rising risks if the Euro-zone crisis worsens and U.S. does not avoid a ‘fiscal cliff’. (Read: 3 ETFs to Prepare for the Fiscal Cliff)

The World Bank also lowered its growth forecast for East Asia and predicted a more pronounced slowdown in China, cutting its growth rate estimate for the country from 9.3% to 7.7% due to weaker exports and lower investment growth.

Slow-down in China may be much worse than earlier expected, partly due to strong measures taken by the authorities in 2010-11 to slow down the overheating economy and curb the real estate bubble. Further the country has been somewhat slow in launching easing measures as it prepares for the big leadership transition later this year. (Read Obama or Romney? Win with these ETFs)

Additionally, China’s population is ageing and it has already lost its low-cost manufacturing advantage to some of its smaller neighbors. While the country has renewed its efforts to promote domestic consumption and has made some progress in rebalancing the economy away from exports, the consumption is still just about 35% of GDP.

India’s pace of growth is slowest in about a decade mainly due to rising inflation, widening fiscal and current account deficit and a weakening currency. Rating agencies have downgraded the outlook on the country’s credit of late and warned that it may be downgraded to junk status.

Though the country has announced some major market reforms recently, the Indian government’s commitment to implement the reforms still needs to be seen, more so in view of the strong political opposition to the measures. (Read: India ETFs-Getting Back on Track?)

Domestic Demand will be Key to Growth in Emerging Asia

The investors should therefore look at some other emerging countries in Asia that have better growth prospects in the near-to-medium term. Two such countries are Indonesia and Philippines, which are shielded to a great extent from the global economic headwinds largely due to thriving domestic demand (about two-third of GDP).

Further both these countries have relatively low credit-to-GDP and loan-to-deposit ratios and ample scope for credit growth which will further fuel the domestic demand. (Read: Forget Brazil, Mexico ETF is Hot)

Philippines

Philippine economy grew at an impressive 6.1% during the first half of the year, much better than expectations.

S&P recently raised the country’s debt to ‘BB+’ from ‘BB’, one notch below investment grade with a stable outlook. Earlier in May, Moody's had raised its outlook on Philippines based on their expectation of “continued fiscal consolidation and finance-ability of the Government”.

While an improving fiscal situation (fiscal deficit is 2% of GDP), low inflation rate (~3%), comfortable foreign exchange reserves position (up five hold since 2005) and a stable currency have been factors in driving the growth, the country faces some significant obstacles like poor infrastructure and corruption.

Thanks to its large educated young population (country’s median age is 22 years) that can speak English, Philippines has been growing in popularity as a BPO destination and has emerged as a tough competitor to India.

Long-term fundamentals for the economy look good in view of the stable political situation and the popular government that seems committed to accelerate the pace of reforms in the country.

iShares MSCI Philippines Investable Market Index (EPHE - ETF report) is a low-cost and convenient way to get exposure to the country’s equity market. EPHE has a Zacks ETF Rank of 2-'Buy'.

Indonesia

Indonesia’s economy has grown at an annual rate exceeding 5% in seven of the past eight years, mainly due to increasing consumption by the rising middle class.

The economy is expected to grow at 6.0% and 6.3% respectively in 2012 and 2013 (per IMF) after an impressive 6.5% growth in 2011. Moody’s and Fitch have recently upgraded the credit rating of the country to investment grade.

Foreign exchange reserves have risen to $109 billion (as of August 2012) from about $20 billion in mid 1997. At the same time, the external debt has declined from over 150% of GDP in 1998 to 26.7% of GDP in 2011.

The central bank left the rate unchanged at 5.75% (for the eighth month in a row) last week, though it now has much more flexibility to cut rates as inflation is down to 4.3%. But the currency has taken a beating this year as the imports surge to meet the rising domestic demand while exports have come down, weakening the current account position.

The investors have a choice of two Indonesia specific ETFs: Market Vectors Indonesia Index ETF (IDX - ETF report) and iShares MSCI Indonesia Investable Market Index Fund (EIDO - ETF report). IDX has a Zacks ETF rank of 1-'Strong Buy' and EIDO has Zacks ETF Rank of 2-'Buy'.

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