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a) Allocative Efficiency
A market is allocatively efficient if it directs savings towards the most efficient productive enterprise
or project. In this situation, the most efficient enterprises will find it easier to raise funds and
economic prosperity for the whole economy should result.
Allocative efficiency will be at its optimal level if there is no alternative allocation of funds channeled
from savings that would result in higher economic prosperity. To be allocatively efficient, the market
should have fewer financial intermediaries such that funds are allocated directly from savers to users,
therefore financial disintermediation should be encouraged.
b) Operational Efficiency
This concept relates to the cost, to the borrower and lender, of doing business in a particular market.
The greater the transaction cost, the greater the cost of using financial market and therefore the lower
the operational efficiency. Transaction cost is kept as low as possible where there is open competition
between broker and other market participants. For a market to be operationally efficient, therefore,
we need to have enough market markers who are able to play continuously.
c) Information Efficiency
This reflects the extent to which the information regarding the future prospect of a security is
reflected in its current price. If all known (public information) is reflected in the security price, then
investing in securities becomes a fair game. All investors have the same chances mainly because all the
information that can be known is already reflected in share prices. Information efficiency is
important in financial management because it means that the effect of management decision will
quickly and accurately be reflected in security prices. Efficient market hypothesis relates to
information processing efficiency. It argues that stock markets are efficient such that information is
reflected in share prices accurately and rapidly.
Kavungya answered the question on April 13, 2021 at 07:01
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