a16z: The innovation of cryptocurrencies is not in the business model, but in the value that users can share.

Bitcoin and Ethereum, like other encrypted networks, have become platforms truly owned and operated by the community. People can use tools to distribute economic value through the network, build network effects, and generate value for themselves, investors, and user communities.

Original Title: "Crypto’s Business Model is Familiar. What Isn’t is Who Benefits"
Author: Jesse Walden, Partner at Andreessen Horowitz responsible for blockchain investments
Translator: Lu Jiangfei

Many entrepreneurs and investors believe that encrypted projects cannot gain value because they are based on open-source code. This idea is understandable, as developing open-source code allows easy replication, leading to the diversion of your users and potential revenue – from this perspective, open-source does not seem like a good business foundation.

However, in reality, the business model of encrypted networks can indeed be sustainable. For those who understand the ways of Web 2.0 platforms, they quickly grasp the encrypted network model. Like many platform companies, encrypted projects attempt to create "defensibility" through network effects, generating fee flows and ensuring that users do not turn to other competitive services (or products from competitors).

Jesse Walden, Partner at Andreessen Horowitz responsible for blockchain investments

So, what makes cryptocurrencies unique? In fact, the greatest potential of encrypted projects is to further expand on familiar frameworks. The biggest innovation of encrypted networks is that users can share the value they create, giving the encrypted network itself the ability to enhance network effects.

In fact, it is easy for us to misunderstand the acquisition of value in encryption. Companies that use open-source code have created tens of billions of dollars in revenue, but the community that builds open-source code does not directly capture most of the value.

Why can't open-source communities profit? This is because copying open-source code is easy, but building services around open-source code and forming a network is not easy. An open-source repository is an empty blueprint, the code is "dead," and to make the code "alive," it needs to be run as a practical use case and injected with data and/or users to ultimately form a network or a service.

Many internet platforms are built using open-source repositories, these repositories are operated by companies that provide practical use cases and services to users. For each new database entry or each new user, services based on open-source repositories become more valuable, thus generating network effects. At this point, if users want to switch to a new competitive service, there will be inherent costs, as competitors often find it difficult to overcome these switching costs, making network effects actually provide services with "defensibility" - imagine copying Facebook, but having no friends on it; or copying Uber, but having no drivers. This is why major platforms become larger and larger, while competitors increasingly struggle.

Once "defensibility" is established through network effects, switching costs become the basis for companies to charge fees to users and/or advertisers. As long as the fees charged are lower than the switching costs of alternative products, this model is viable.

Similar to Web 2.0 platforms, well-designed encrypted networks are also real-time services that can form strong network effects and turn them into the basis for generating switching costs. Given that encrypted networks rely on open-source code, encrypted networks can be copied (or forked) more easily. However, although the cost of copying open-source code is low (sometimes even free), you need to coordinate all network participants and get them to move to the forked new network, resulting in relatively high social costs. Not only that, you also need to strengthen brand promotion, make people familiar with and trust the new network, along with Lindy effect and smart contract integration. This is actually why existing services can be consolidated, while also the secret to building network effects and generating switching costs.

ChainNews Note: The Lindy effect refers to the idea that for things that will perish on their own, the expected remaining days decrease each day it survives; while for things that will not perish on their own, the expected remaining days increase each day it survives.

The network effect of Bitcoin comes from an increasing number of people considering it as a value store, thus motivating miners to protect network security. The network effect of Ethereum comes from developers deploying applications - each developer can use Ethereum as a building block for products, and other developers can build higher-level services based on Ethereum, thereby driving Ethereum usage growth and demand for the ETH token.

At the application level, automated token exchange Uniswap is becoming more and more useful to each new user, as additional liquidity in the market can bring better trading prices; Compound is a currency market protocol for lending businesses, which can provide more competitive rates for loans as lending liquidity increases.

In the case of these two examples, forking the original network from a technical standpoint may be equivalent, but functionally the new forked network may struggle to compete with the original network. For example, in the case of Compound, the liquidity of the new forked network would be lower, thus it cannot offer more attractive rates. For the same reason, the forked network of Uniswap also cannot provide better trading prices for users. After Bitcoin forks, people usually do not see the forked cryptocurrency as a value store or medium of exchange, thus it is unlikely to gain value.

This is essentially the same principle of "defensibility" for traditional Web 2.0 platforms: attracting users, building network effects, and enhancing defensibility by generating switching costs. For cryptocurrency platforms, switching costs are the basis for margin extraction and usually exist in the form of fees:

As long as a service keeps the "extractive" nature at a minimum - that is, charging users fees lower than the switching costs, this model is viable.

Therefore, the innovation of cryptocurrencies is not in the business model, but in - who benefits from it.

Cryptocurrency is an innovation similar to a data packet. Now we can move digital value in a mobile digital manner: using an open standard, in a very delicate transmission manner, value can be transmitted to anyone, anywhere in the world - this means that encrypted services that can transmit value now have a unique opportunity to directly distribute value to users who create value.

If the fee stream is properly designed, value distribution becomes more efficient, encrypted projects can provide direct incentives to users to encourage contributions, enhance network defensibility, and further strengthen network effects. In turn, this approach will also enhance the survivability of the fee stream, forming a virtuous cycle. Based on a cooperative economic model, this virtuous cycle can also enable sustainable growth in network scale and defensibility owned by users.

From a scale perspective, encrypted networks like Bitcoin and Ethereum have actually become platforms based on community ownership and community operation. However, with the right tools, others can also create similar networks, and can distribute economic value through networks, build network effects, and generate value for themselves, investors, and user communities.

Creating an economic cooperation model with users is a key feature of the cryptocurrency product experience. For founders of cryptocurrency projects, this can actually unlock larger, more competitive, and more defensible networks, achieving more innovation - but please do not forget, all of this is attributed to the open-source foundation of the cryptocurrency industry.

This article is authorized by ChainNews for reprint, source: ChainNews (ID: chainnewscom)

Further Reading

• a16z Partner: Committed blockchains will redesign the structure of finance and internet services
• [Observation] Do you still think blockchain is a useless technology? These five applications may change your mind
• [Special Topic] In the era of zero interest rates, everyone should know about cryptocurrency as a fixed asset

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