What determines which cryptocurrency projects become the market leader in a given sector? We could assume that the market should generally gravitate towards the best solutions in the long run. However, this isn’t so simple. There are many factors at play.
Developers may ship some innovative technology, but if it doesn’t have a good market fit at the time of shipping, it may not get traction.
In some cases, technologically inferior projects capture the bulk of market share simply because they were available at the right time. This is where network effects have a significant impact.
A network effect is an economic effect that describes a product or service where additional users add value to the network. When a network effect is present, each new user adds value to the product by entering the network. This, in turn, incentivizes new users to join the network, adding more value to it, and so on.
The quintessential example of a network effect is the telephone. In the early days of the technology, only a very few people had telephones in their homes. What’s more, their houses had to be physically connected to each other to use the network.
As the technology matured, more and more people could afford a telephone, which in turn increased the value of the entire telephone network. As the number of users increased, the value and utility of the entire network increased. This created a positive feedback loop, where the more people joined, the more value was added to the entire network. Increased usage led to exponential growth.