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AbstractTo go beyond the efficient markets hypothesis (EMH) we suppose that the stock market can be in one of three states: (1) a fundamental state, where share prices are determined largely as in the EMH; (2) a bubble or bull market state, where share prices are above their fundamental levels but are expected to continue to rise further, and (3) a bear market state, where shares are held exclusively by irrational agents and rational agents cannot exploit the overvaluation because of short‐selling constraints. Also, heterogeneous rational expectations may help explain some features of stock market behaviour.

This paper is concerned with empirical and theoretical basis of the Efficient Market Hypothesis (EMH). The paper begins with an overview of the statistical properties of asset returns at different frequencies (daily, weekly and monthly), and considers the evidence on return predictability, risk aversion and market efficiency. The paper then focuses on the theoretical foundation of the EMH, and show that market efficiency could co-exit with heterogeneous beliefs and individual irrationality so long as individual errors are cross sectionally weakly dependent in the sense defined by Chudik, Pesaran, and Tosetti (2010). But at times of market euphoria or gloom these individual errors are likely to become cross sectionally strongly dependent and the collective outcome could display significant departures from market efficiency. Market efficiency could be the norm, but it is likely to be punctuated with episodes of bubbles and crashes. The paper also considers if market inefficiencies (assuming that they exist) can be exploited for profit.

The familiar market‐failure model remains quite useful for issues of price efficiency and traditional utilitarianism, but it has many shortcomings as a standard for public‐value aspects of public policy and management. In a public‐value‐failure model, I present criteria for diagnosing values problems that are not easily addressed by market‐failure models. Public‐value failure occurs when: (1) mechanisms for values articulation and aggregation have broken down; (2) "imperfect monopolies" occur; (3) benefit hoarding occurs; (4) there is a scarcity of providers of public value; (5) a short time horizon threatens public value; (6) a focus on substitutability of assets threatens conservation of public resources; and (7) market transactions threaten fundamental human subsistence. After providing examples for diagnosis of public‐values failure, including an extended example concerning the market for human organs, I introduce a "public‐failure grid" to facilitate values choices in policy and public management.