The Market Size Paradox of Niche Product Innovations

Abstract

When do niche product innovations—new products that initially appeal to narrow market segments—achieve widespread commercial success? To answer this question, I develop an agent-based model of innovation diffusion in a competitive product market. The model varies two important parameters of the market: incumbent market power (the degree to which sales are concentrated in a small number of incumbents), and customer mimesis (the degree to which customers’ preferences depend on other customers’ preferences). The model indicates that niche product innovations are more likely to be big hits than products with broad appeal when incumbent market power and customer mimesis are both high, but less likely when both are low. I empirically validate the model using a consumer panel dataset of over 11,000 new consumer products purchased by about 400,000 consumers from 2006-2019. The results imply a “market size paradox”: under certain conditions, innovations that initially appeal to relatively narrow market niches (as opposed to broad appeal) actually tend to achieve greater widespread commercial success. Thus prior to launch, niche innovations, which have more potential for commercial success, may systematically appear to have small potential market sizes according to traditional market-sizing techniques.