Network effects are common in platform businesses. However, are there network effects in crypto currency and what do they look like?
When talking about currency in general, the following is true: the ones using the currency give it value. If the whole world decides to stop using the dollar as a form of currency, the value will drop to almost 0. Therefore, more investors / speculators in a crypto currency increase the value of that cryptocurrency, which in turn results in a people wanting to use / buy that cryptocurrency. This network effect can be classified as a direct demand side network effect.
There are also indirect network effects in cryptocurrency. An increase in the usage of this cryptocurrency will also create new businesses and service providers. An example could be a consultancy company that helps companies in accepting payments in that cryptocurrency or a business that develops secure crypto wallets. These indirect network effects are however quite common in most industries.
For cryptocurrency there are 3 main feedback loops.
- Price-Adoption feedback loop (Direct network effect)
As already mentioned, a higher price results in more demand which again results in a higher price. However, this feedback loop isn’t always positive. If price fall the opposite could take place as well: price drops results in less interest which in turn makes the price fall further.
2. Liquidity-Utility feedback loop
More users and traders increase liquidity results in lower transaction costs which attracts more users and traders.
3. Developer-ecosystem feedback loop (Indirect effect)
More developers result in more apps and services that are built on that cryptocurrency, which in turn increases the demand to that underlying cryptocurrency.
Most of these feedback loops are present for all sort of currencies. Out of these three, the third is most relevant for cryptocurrency
