China recession ahead

"The collapse of emerging market economies will shake investors to the core. The great unwind has only just begun," said Albert Edwards, the bank's global strategist.

"The big surprise in store is what could happen in China. The potential for a deep recession in the US is already on the radar screen, but people will be stunned if China's economy contracts, as I believe it will. Investors could be massively caught out," he said.

"The consensus has a touching belief that emerging markets will prove resilient despite a deep downturn in developed economies. My view is that an outright contraction in global GDP is entirely possible next year."

"The emerging market boom is totally tied up with a decade of ballooning current account deficits in the US. Put that into reverse and you'll be surprised what pops out of the woodwork."

Mr Edwards said the vast accumulation of foreign exchange reserves – led by China with $1.8 trillion – had provided the "rocket fuel" of liquidity for frontier markets. This virtuous circle has now turned vicious as America tightens its belt. Countries in Asia and Latin America are intervening to prop up their currencies, causing reserves to fall.

"We could see monthly trade surpluses in the US within a year. The emerging market liquidity squeeze will intensify ferociously, and assets linked to the region will become toxic waste. That includes previously resilient banks such as HSBC, Standard Chartered and Banco Santander," he said.

The gloomy forecast comes as Fitch Ratings warns of mounting distress for banks in China, where debt has been shunted off books to circumvent state limits on credit growth.

The pattern looks eerily like the use of "conduits" by Western banks at the height of the credit bubble.

The agency's China team, Charlene Chu and Chunling Wen, said banks had used an "underground market" on a large scale to stoke up lending. "These types of credit and/or institutions fall outside the traditional structures of financial supervision, exposing banks to a growing amount of risk that is for the most part hidden By getting a portion of their credit off books, Chinese banks are able to comply with official loan quotas while in practice exceeding them," he said.

Under the mechanism, the loans are packaged into wealth products and sold to investors searching for bumper yields. The parallel with the US sub-prime debacle is striking, although Fitch avoids an explicit parallel.

Moreover, the banks issue "entrusted loans" in which they act as piggy-in-the-middle between two sets of clients, keeping the credits of the portfolio sheet. These loans have reached 1.5 trillion yuan ($220bn).

Even without such off-books liabilities, the banks are facing a crunch as the economy slows hard and the property market stalls. Shenzen house prices are already down 30pc.

"The Chinese banking system is nearing the point at which it can no longer sustain additional large net withdrawals of liquidity without generating further strains on banks' ability to lend," it said.

Morgan Stanley said this month that China's housing market was heading for a "melt-down". Data is patchy and rarely reliable, but it is clear that home sales in Beijing, Shanghai and other Eastern cities have fallen drastically over the summer.