Network externalities

One of the concepts brought up in Chapter 4 of the HFM book is the phenomenon known as "network externalities." It's also called the "network effect," and refers to a basic process best illustrated when we think about the telephone: As individual users join the phone network, their subscription enhances the value of that network for everyone else on it, without them necessarily intending to do that. Thus, the "externality" points to something that's out of the end-user's control—in this case, the positive value created by his or her decision to subscribe to the network.

All of this is pretty obvious, of course, but to extend this thought on network externalities I would like to mention two other examples (since the telephone example is the one so often used to explain this concept). First, I remember when I first got an e-mail address, way back around 1993 or '94 (yes, I was one of the early, early adopters!). While it was a fun curiosity, I couldn't e-mail hardly anyone behind my circle of fellow geeks in the high school computer lab because the network was so limited and the difficulty so great in trying to find friends and family online. Even in 1996, when I began as a college freshman, I remember having to pay for a university e-mail account! How things change.

Moving beyond e-mail, consider the more recent example of Facebook. When I first joined the site just a year ago, there weren't too many of my friends and family on the network because, like me, most of them had grown up before the social networking craze. So, at the time, the network didn't have much value to me personally. I hardly looked at it for at least six months or more. Then, as I returned to it one day this summer, I asked Facebook to plumb my address book for contacts already signed on to the site ... and was stunned to see how the number had grown by at least 100 or more. The site clearly had passed the early-adopter stage of 18-25 college students and moved into the early/late majority hump in the Rogers' innovation curve. And now, at this point, the Facebook network had great value to me—value in terms of warranting my time and attention, if not my actual spending. In joining the network, my friends and family had contributed a positive externality that transformed the site's value for me.