Bootstrapping Web3 Networks: The Limitations of Token Incentives

Before we dive in, let’s revisit the cold start problem — a well-known challenge for products with network effects (or “networks”), including Snapchat or Airbnb. On these products, the addition of a user makes the product more useful for all users. But on day 0, they have no users and, therefore, no utility to offer new users. This forces them to f... See more

Acquiring users is not enough to reach liquidity. You also need the right type of users, i.e. those who feel the problem most deeply and would put up with any amount of friction to engage with your network. When you acquire these users, activity outpaces adoption and the utility of the network grows. As a result, the network becomes significantly m... See more

By now it should be obvious that tokens aren’t a magic bullet — there are no shortcuts to building a network. Networks that just need passive participation from users can use tokens as one tactic to overcome the cold start problem. But networks with active participation can be harder to bootstrap. In these cases, token rewards can incentivize behav... See more

NFX has proposed a similar idea called network bonding theory. According to this school of thought, tokens give early users a financial incentive to participate in a network. The addition of those users then allows the network to increase its utility and reach liquidity. 

In fact, these types of networks may be good candidates for progressive decentralization, i.e. build a network the usual way first and introduce tokens for community ownership, governance, and/or rewards later.

To summarize, tokens can certainly play a role in building a network, but they are not a GTM motion in themselves. Pay attention to the kind of network you’re building and how token incentives interact with network utility before relying on them as a bootstrapping solution. 

Tokens are viewed as a way to circumvent this problem 

Most of the networks we use today require active participation — whether they are social networks like Snapchat and WhatsApp or marketplaces like Airbnb and Uber. If you never open Snapchat, you add no value to the network. If you’ve never accepted bookings for your Airbnb listing, you add no value to the marketplace. Are tokens an effective way to... See more

At a high level, the only way to address this problem is to link token incentives to network utility, i.e. ensure that users can only receive token incentives if they add value to the network. In other words, rewards need to be restricted to specific, desirable actions, not just adoption.