The Cold Start Problem and Local Network Effects

Facebook has a billion members.  But if your couple hundred friends are not members, the wonders of network effects are purely theoretical.

Similarly, take an instant messaging network.  On an instant messaging network, a user wants to communicate with only a small fraction of the actual and potential user base of the network.

Here is one definition of local network effects:

For example, a good displays local network effects when rather than being influenced by an increase in the size of a product’s user base in general, each consumer is influenced directly by the decisions of only a typically small subset of other consumers, for instance those he or she is “connected” to via an underlying social or business network (instant messaging is a great example of a product that displays local network effects).

As the user benefits when his or her “local network” joins the network, that user has an incentive to get his or her network to sign up.  This provides a potential solution to the cold start problem  — how does one jump-start network effects?

Local networks lead to global network effects. Local networks interlock and overlap; they are not isolated.  Local networks of friends on Facebook or IM network interconnect with other local networks.

The key lies in nurturing that interconnection.  By empowering and encouraging the local network, the global network can rise.