JIM O'NEILL: I Suspect China Is Growing More Slowly Than Everyone Thinks

"It was yet another pretty miserable week for owners of China A shares, especially Thursday, when the regulatory authorities announced a clampdown on so-called Wealth Management Products (WMP) offered by the banks and with it, presumably, the much discussed shadow banking activities," he wrote.

Still, he believes this development is probably a good thing in the long-run in that it contains the trillion dollar market for WMPs from getting out of control.

Overall, O'Neill continues to be bullish on China. However, one key economic indicator keeps him cautious in the short-term.

I have followed a Chinese Financial Conditions Index (FCI) for years as a leading indicator and it has been very useful for me in helping to guide my relative views of the Chinese cycle. (Please find the chart attached.) Despite all my China structural bullishness, its tightening from 2009 to 2011 and its subsequent lack of major easing is why at GSAM we have had a more cautious view of the cycle than the consensus for the past two years. Many people have suggested to me that the proliferation of the shadow banking system was why it didn’t matter. I never fully believed this, and now with this clampdown, unless they ease financial conditions, I suspect that the Chinese cycle will be softer than consensus forecasts for 2013 at least. So, contrary to market expectations, could we end up with an easing of policy?

So, either the data continues to disappoint, or China eases policy.

Here's the chart O'Neill refers to.

Read his whole note at GS.com.