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The efficient allocation of funds between investors and
borrowers is the primary purpose of the capital market. It is an essential
financial institution that facilitates borrowing and lending activities and
enables individuals and firms to invest in production even when they do not
have enough funds. The efficient market hypothesis (EMH) is a concept that
assumes that all market trends are instantly reflected in the stock
quotations, and it defines the market efficiency. While it might be the most
efficient form of the capital market, all real-life financial markets are
far from efficient. This essay aims to discuss the benefits and criticisms
of the efficient market hypothesis.
The EMH assumes that the current share prices consider all information
obtained from private and public sources, and it defines the strong form of
the market efficiency. In the strong form of EMH, all market trends and
information, whether private or public, are immediately reflected in the
stock quotations. However, in real-life, financial markets are far from
efficient, and this creates various criticisms. For instance, people
perceive market information differently, and the participants can start
panicking, which might influence the market trends.
Moreover, investor decisions are not always based on public or private
information, but instead depend on their risk tolerance level. This implies
that investors might rely on their subjective perceptions of market
information when making investment decisions, which can result in poor
investment decisions. The criticisms of EMH, therefore, suggest that the
market efficiency is not always guaranteed, and the market trends can be
influenced by several factors, including irrational behavior and
psychological factors.
Despite the criticisms of EMH, efficient capital markets have several
benefits. The reallocation of funds between investors and borrowers provides
benefits to both parties, and it allows individuals and firms to invest in
production without having enough funds. Moreover, the EMH ensures that the
market trends are instantly reflected in the stock quotations, allowing
investors to make informed decisions based on current market information.
This, in turn, minimizes the risks of investment losses and promotes the
growth of the economy.
In conclusion, efficient capital markets are critical in facilitating the
borrowing and lending activities that support the reallocation of funds
between investors and borrowers. The EMH concept is an important aspect of
efficient capital markets as it assumes that all market trends are instantly
reflected in stock quotations. However, the real-life financial markets are
far from efficient, and this creates several criticisms. Despite the
criticisms, efficient capital markets provide several benefits to investors
and borrowers, and they promote the growth of the economy. |
