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Albert Edwards: Brace yourself for a bust

The next deflationary bust is looming, reckons investing guru Albert Edwards. And it will be hastened by China’s devaluation of its currency.

"When he's been right, he's been spectacularly right," as Jason Clenfield and Kevin Buckland put it on Bloomberg.com. In 1996, everyone was piling into the supposed "East Asian economic miracle". Albert Edwards, then working for Kleinwort Benson, predicted a regional blow-up. The Asian crisis started the next year.

At the same time, he said the US and Europe were in for a repeat of the Japanese experience, where the market only bottomed two decades after it peaked in 1989. This "Ice Age" theme is still playing out, he reckons, and is now entering a crucial phase. The next deflationary bust is looming, and will be hastened by China's devaluation.

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Edwards, who has warned for some time that China would have to devalue its currency to shore up growth, is worried that this will spur competitive devaluations across emerging markets. This in turn implies deflationary pressure spreading in the developed world as import prices fall.

Another key ingredient in the collapse to come is the asset bubble created by central banks, who have just blown up yet another bubble, even though the housing and credit boom ended so badly in 2008.

One key lesson of that crisis "is that allowing cheap money to inflate asset prices excessively' ultimately ends in economic tears", says Edwards in his latest note for Societe Generale. Assets of all kinds have never been so expensive. So when this bubble bursts, we will face "an even bigger crisis than in 2008".

With a bust baked into the cake, it's too late to fuss over whether the Federal Reserve should raise interest rates or not it is no longer possible to "avert a calamity", says Edwards. The bubble is so big that trying to bring rates back up to normal levels is likely to burst it. But the longer the central bank leaves it, the "more excess will be accumulated and the worse the ultimate deflationary bust will be so they might as well just get on with it now".

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