Why the Efficient Market Hypothesis is Correct

According to neoclassical free market economics, which has it that markets know best, markets are efficient as they incorporate all available information. In particular, financial markets are efficient and they are not prone to mania, bubbles, and spectacular crashes. This view of markets has been dominant, and has framed, indeed continues to frame, public policy.

We know the efficient market hypothesis to be false; the third world debt crisis, the savings and loans collapses, the Long Term Capital Management affair, the European financial crisis indeed the global financial crisis itself are all, or at least should be viewed as, Kuhnian anomalies that bring economics to paradigmatic crisis. A crisis that can only be resolved by a thoroughgoing analysis of the epistemological assumptions of economic theory and a shift of paradigm that incorporates an analysis of market and financial instability.

It is one thing to ruminate at the intellectual plane on Kuhn and the structure of scientific revolutions, but it is quite another to *live through* a Kuhnian anomaly especially for the victims.

Policy continues to be framed with respect to the neoclassical framework, and to its utter discredit, Stockholm awarded the founders of the efficient market hypothesis Nobel Prizes right in the midst of the global financial crisis. A more disgraceful kick in the teeth one can hardly imagine, perhaps a Nobel Peace Prize for Eichmann would have done. To be sure, among dissidents and heterodox economists, the efficient markets framework, including its underlying epistemological assumptions, has been subjected to fierce criticism but its hold on economics and policy endures.

This is because, in a very important sense, the efficient market hypothesis is actually correct.

Markets, especially financial markets, are very efficient at distributing power and privilege to the architects of policy and the institutions that the architects serve. The “masters of mankind,” to take from Adam Smith, are animated by a “vile maxim,” namely “all for ourselves and nothing for other people.” It is not hard to see how markets are quite efficient here.

The theorems of free market economics, nice pretty little things they are too, are all based on a prime axiom; we have to make the rich happy, because if the rich are happy wonders will follow.

With respect to this axiom markets are efficient. What more is there for me to say but;


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