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Network Effects on Bitcoin and other Cryptocuurencies

In class and in the textbook, we have talked about network effects recently. Network effects are a phenomenon where a product or service gains more popularity, the more people use it–sort of like a positive feedback loop. One space where it may be particularly interesting to examine the prevalence of network effects is in the emerging world of cryptocurrencies. Cryptocurrencies provide a great platform for studying network effects, because the more popular a currency becomes, the more vendors will accept it and as more vendors accept it, more people will want to own in, which in turn raises the value.

An interesting question that this article poses is: will these network effects lead to a single dominant cryptocurrency? In the current market, there are 2 big cryptocurrencies, Bitcoin and Ethereum, however neither of them quite dominate the market yet, and there are hundreds of smaller niche cryptocurrencies out there. “In some cases, network effects necessitate a single dominant winner, and in others they simply confer an advantage to market leaders or first movers. Which type is Bitcoin?” the article questions.

While cryptocurrencies are still too young to provide an answer, this article suggests that the inherent network effects of Bitcoin may lead to a one single dominant cryptocurrency, with other smaller specialized cryptocurrencies left with a small market share. The author draws a comparison to the world of social media, citing Facebook’s grip on the market whereas Twitter and Instagram have smaller, more niche markets.

While I agree that networks effects seem to suggest that one dominant cryptocurrency, it appears to me that their versatility may lead to second alternative the article proposes. In the early world of cryptocurrencies, Bitcoin is more useful for pure transactions and ethereum has other applications, such as smart contracts. Unlike the article, in my view, these two platforms may be able to coexist, despite network effects pushing one towards a stranglehold of the marketplace.

 

Source: https://www.aier.org/blog/how-important-are-bitcoin%E2%80%99s-network-effects

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