Facebook’s Conduct Shows Not All Network Effect Are Positive

05.25.2019

Network effects are a much-cited economic construct applied to market concentration and increasing returns for strategies pursued by some leading tech companies.

This dynamic economic agent is also known as demand side economies of scale. W. Brian Arthur, the economist credited with first developing the theory, described the condition of increasing returns as a game of strategic positioning and building up a user base to the point where “lock in” of dominant players occurs. Companies able to tap network effects have been rewarded with huge valuations and highly defensible businesses.

But what about negative network effects? What if the same dynamic applies to the U.S.’s pay-to-play political industry where the government promotes or approves of something through a policy, subsidy or financial guarantee due to private sector influence. Benefits accrue only to the purchaser of the network effects, and consumers, induced by the false signal of large network size, ultimately suffer from asymmetric risk and experience what I’m calling a loss of intangible net worth for each additional member after the “bandwagon” wares off. If this were the case, then you would see companies experience rapid revenue growth (out of line with traditional asset leverage models), executives accumulating huge fortunes and political campaign coffers swelling. But the most striking feature would be the anti-social outcomes, the ones not available without the instant critical mass of government-supported network effects, the ones that, at scale, monetize a society’s intangible net worth.

Network effects can be earned or purchased, weak or strong, offensive or defensive, but they are always powerful. It’s why they are pursued with such vigor. Take the case of Facebook, a company considered to be a textbook case of massive value created with network effects. Yet there are persistent questions about Facebook’s impact on society. One data point to consider concerns leaked documents that describe how the social network shared psychological insights on young people with advertisers. According to reports dating back to 2016, Facebook told Australian advertisers it can identify teens feeling “insecure” and “worthless” stemming from such things as body confidence and weight loss. In the marketing world, this segment is called vulnerable narcissists – and these are among the most emotionally vulnerable in society including, “high schoolers, college students and young working Australians and New Zealanders.” Facebook is described as having the capacity to monitor posts and photos in real time to determine when young people feel “stressed”, “defeated”, “overwhelmed”, “anxious”, “nervous”, “stupid”, “silly”, “useless” and a “failure.” Exploiting emotional vulnerability for profit can certainly be considered a sociopathic targeting of intangible well-being. Consider this: A New, More Rigorous Study Confirms: The More You Use Facebook, the Worse You Feel

Today, this all sounds like familiar conduct for Facebook. Starting with Cambridge Analytica, the political consulting firm that did work for the Trump campaign and harvested raw data from up to 87 million Facebook profiles, the social media company has been under constant attack in recent years for issues ranging from massive privacy violations to political interference from nefarious Russians.

What was once Facebook’s earned network effects now appears to be transitioning to purchased negative network effects. This happens when, in the case of Facebook, scrutiny and outrage leads to strategies to protect and defend negative network effects through the U.S. political pay-to-play industry. After all, who is Facebook seeking to gain advantage over by purchasing close to $100 million in regulatory influence in Washington?

Capitalism appears to have morphed into a “technology”, like social media, that is designed to find the clearing price for our values and beliefs.

Source: Opensecretes.org, as of May 2019.

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Simons Chase

Simons Chase, investor, speaker, writer

Facebook’s Conduct Shows Not All Network Effect Are Positive

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