“Why Are 25 Hedge Fund Managers Worth 658,000 teachers?”

Here is an excerpt from article written by Umair Hague for the Harvard Business blog. To read the complete article, check out other articles and resources, and/or sign up for a free subscription to Harvard Business Daily Alerts, please visit dailyalert@email.harvardbusiness.org.

The Efficient Community Hypothesis

The visionary Stowe Boyd recently kindly invited me to give a talk at his awesome Social Business Edge conference next week. I couldn’t make it, unfortunately — so here’s the talk I was going to give instead. Enjoy!!

“Why Are 25 Hedge Fund Managers Worth 658,000 teachers?” A poignant question that was recently posed to me on Twitter, it makes your head — and your heart — hurt.

The answer has everything to do with the Efficient Market Hypothesis. Last weekend, the world’s most eminent economists gathered at King’s College, Cambridge. Their goal: soul searching — reflecting on not just the economic crisis, but on the crisis in modern economics, of which the EMH is a foundation.

Much maligned, often misunderstood, here, paraphrased, is what the EMH really says.

“The EMH, originally put forth by Eugene Fama of the University of Chicago in the 1960s, states that the prices of securities reflect all known information that impacts their value. No matter what definition is used, the hypothesis does not claim that the market price is always right.”

Italics are mine.

The upshot? Even when markets are efficient, they can still be of little social use, because they can result in dramatic mispricing. The result? Bubble, crash, and collapse: welcome back to 2009, 1989, or 1929.

And that’s where communities come in.

I’d like to advance a hypothesis. Call it the Efficient Community Hypothesis. It says: where efficient markets incorporate “all known information,” efficient communities incorporate “the best known information.” An efficient market is a tool for sorting the largest quantity of info. But an efficient community is a tool for sorting the highest quality info.

On its own, the EMH is simply about informational efficiency: that prices incorporate “all known information.” Where it falls down is in terms of informational productivity: whether prices incorporate accurate, valid, and reliable information — high quality knowledge, instead of low-quality noise. Incorporating all known information doesn’t mean incorporating good information.

The point of communities is, when you think about it, to ensure that people and organizations don’t just get any old information — but the right, the best information. They should filter out bad, inaccurate information from unreliable sources and replace it with its opposite. They are, in short, the economic mirror image of markets: where efficient markets ensure information efficiency, efficient communities ensure information productivity.

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To read the complete article, check out other articles and resources, and/or sign up for a free subscription to Harvard Business Daily Alerts, please visit dailyalert@email.harvardbusiness.org.

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Umair Haque is Director of the Havas Media Lab. He also founded Bubblegeneration, an agenda-setting advisory boutique that shaped strategies across media and consumer industries.