What are Network Effects?
Network effects, also known as network externalities, refer to the phenomenon where the value of a product or service increases as more people use it. In other words, the more users a network has, the more valuable it becomes to each individual user.
For example, social media platforms like Facebook and Twitter exhibit strong network effects.
As more people join the platform and create content, the platform becomes more valuable to existing users because there are more people to connect with and more content to engage with. This in turn attracts even more users, creating a self-reinforcing cycle.
Network effects can be positive, as described above, or negative.
Negative network effects occur when the value of a product or service decreases as more people use it. For example, a congested highway can become less valuable to drivers as more cars join the road, causing increased traffic and longer commute times.
Network effects can create significant barriers to entry for new competitors, as they need to overcome the existing network in order to offer a product or service of comparable value. As a result, companies that benefit from strong network effects often enjoy significant market power and can command higher profits.