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Two decades ago, the Virginia Law Review published our article “The Mechanisms of Market Efficiency” (MOME), in which we tried to discern the institutional underpinnings of financial market efficiency. We concluded that the level of market efficiency with respect to a particular fact depends on which of several market mechanisms — universally informed trading, professionally informed trading, derivatively informed trading, and uninformed trading (each of which we explain below) — operates to reflect that fact in market price. Which mechanism is operative, in turn, depends on how widely the fact is distributed among traders, which, I turn, depends on the cost structure of the market for information. Less costly information is distributed more widely, triggers a more effective efficiency mechanism, and is reflected more efficiently by market prices.

Revisiting our article is particularly appropriate today. A new framework for evaluating the efficiency of the stock market called “behavioral finance” and a growing number of empirical studies pose a serious challenge to the Efficient Markets Hypothesis. Michael Jensen’s 1978 statement that “there is no proposition in economics which has more solid empirical evidence supporting it than the Efficient Market Hypothesis” is now proffered with a tone somewhere between irony and condescension.


Banking and Finance Law | Law | Securities Law