Market Efficiency and Crises: Don’t Throw the Baby out with the Bathwater

The essence of market efficiency is fair asset pricing, which is compatible with multiple price dynamics and speculative bubbles. However, many practitioners and financial academics criticize the efficient market hypothesis on the basis of highly volatile asset prices. I argue that the persisting confusion as to the nature of market efficiency is driven by the difficulty to grasp the financial interpretation of multiple solutions. Importantly, the confusion can mislead regulators when addressing volatility containment. Acknowledging the multiplicity of efficient price dynamics not only enriches the understanding of financial crises, but also helps designing appropriate regulations.
JEL Codes: G14; G12; G01; B41.
Keywords: Efficient Markets; Multiple Solutions; Rational Expectations; Speculative Bubbles; Volatility.