Professor of Strategy and Entrepreneurship
London Business School

Should we stop saying that the market is efficient?

No, we should not stop saying that the market is efficient. We should stop saying that, because the market is efficient, the most efficient firms prevail. Because they do not. And that is because there are always multiple markets going on at the same time.

Take a firm in any market of your choice, and then consider this firm’s internal labor market. It often is a very competitive race who is going to be the CEO of the company. Yet, the characteristics that make a person more likely to win this race do not necessarily make him or her a good person to lead the company. Let me explain.

An interesting line of research in social anthropology analyzed what type of person is more likely to rise through the ranks to become the headman of a tribe. Often, this would be the most fierce, ambitious and aggressive warrior, who would be willing to take on all his opponents in the quest for leadership. Yet, interestingly, although characteristics such as fierceness and ambition would be helpful in becoming tribe leader, these characteristics were not necessarily positive for the future of the settlement, since these type of leaders were prone to take the tribe to war. This would ultimately take its toll on the size, strength and survival chances of the tribe. Thus, the same characteristics that would make people more likely to become the headman were likely to get the tribe in to trouble.

CEOs might not be all that different. Those people who are ambitious, risk-seeking and aggressive enough to be able to rise to the ultimate spot of CEO, just might be the same people who, once they’re there, take their firm on a conquest. Take acquisitions. They often offer the thrill of the chase. You select a target, mobilize resources and lead the attack. Sometimes there are others eyeing your prey but skilful maneuvering and a fierce battle will make you come out victorious again. And another victory means pictures in the newspapers, popping champagne, and a larger tribe to rule and command.

Yet, we have seen many firms going on an acquisition spree, inspired by their ambitious new CEO, who not for long went down in a blaze without much glory. The aggressiveness, boldness, and risk-taking behavior of the person at the helm had brought him or her to that position, but it didn’t translate well into a sensible corporate strategy.

Markets are in some form or another efficient, whether they are internal labor markets or markets for corporate control. But they may not be aligned, and victory in one may very well lead to defeat in another.

2 Comments for “Should we stop saying that the market is efficient?”

  • M A J Jeyaseelan says:

    I am really glad that you touched towards the end of your post something that I hold against all economists. In fact this is the only thing I remember out of all of Keynes' writings. He also thought a simplified equation is far better than a complicated explanation about why recession happens.

    I wish the economists also accepted a similar approach from their physicians and surgeons. It is easier to cut off organs than heal them for specific malaise.

    I am not at all against markets. I am only against relying on markets to do things that they really cannot. I still remember the days when I learned statistics. I was repeatedly told that parsimony is central to all statistical methods. As a result, we have mostly measures of similarity and hardly any to analyse differences.

    In my view, with the advancements that have taken place in IT, we need to move away from such constricting simplicity that tells us to shun reality. We can actually census methods to calculate GDP than go for sample surveys. We can now understand multidimensional problems better with the help of IT.

    I believe it is time we replaced the the two dimensional x, y graphs from our vocabulary and opted for something that is closer to realities on the ground

  • An Insurance Coverage Thought says:

    Really good characterization of the ceo. How many huge mergers have caused companies to wallow? I think such aggressive behavior suits the entrepreneur well but perhaps large firms should reassess who should be ceo.


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