We are first going to approach the topic of network effects by taking a look at some typical examples and properties of network markets. So, to explain what network effects are all about, let's take a look at one classical example of a product with network effects. Specifically, let's take the telephone. So, we're going to go through a couple of properties that I think we all agree that the telephone has, and then we'll translate this into economic terms. So, first of all, for a telephone to be useful, we need other people to communicate with. This also means that if no other users have phones, then there is no point in getting one. If others have a system, if others have telecommunication connections, then they have to work on the same standard or they have to be compatible. In other words, I have to be able to make a connection with other people. If you recall, or if you remember back, you're basically going to realize that most people switch their telephone operators not very often. So, it seems to be difficult to change between different operators, which also implies there are only few operators in the market. So, when you're trying to look for a new connection, for a new network, it often turns out that there are not that many options to choose from. And finally, infrastructure has to be built in advance. Before you even start making the first phone call, the telephone operator has a lot of set up costs. So, you either have to lay the cable underneath the ground or you have to build mobile transmission towers if you're looking at mobile networks. So, these are basically six important properties of the telephone. Let's now translate this into general properties of network effects. So, the fact that we need other people to communicate with, means that there are positive consumption externalities. In other words, if someone else joins my network, I get an additional utility. I get an additional benefit from that. The fact that no other users means that I don't get any utility is an implication of critical mass. So, critical mass means that below a certain size, a network will not be sustainable. And network size is an important factor when it comes to determining the success of a product. Complementarity, compatibility, and standards are important strategic variables when we're thinking of a network good. The fact that it's difficult to change between operators suggests that there are switching costs and that consumers will often be locked-in to a particular network. Now, this is a property that's not exclusive to network markets, but it's something that we see fairly often in there. We often have few operators in the market, which means that we often end up with very concentrated market structures which are often asymmetric. So, in other words, there's often one winner, and there are some losers in the industry in a particular network good. And finally, the fact that we have to build the infrastructure in advance also means that there are often significant economies of scale in production. So, in other words, when we're linking all these factors, it suggests that there is an advantage to being big. And being big, having a big network, actually makes it easier to become even bigger, both on the cost side, so that's about the economies of scale in production. But also on the benefits side, which means that there are positive consumption externalities. So for now, stay tuned for the next video. Okay, so now that we've got a rough idea about network goods, we can continue to find out what their special properties mean when it comes to marketing them. [BLANK]
