[tstegart]

But an economically balanced model might not be palatable to consumers. If you don't make the free side full-featured enough, then people get annoyed and leave. And lets be frank, free users are the majority on most sites. So if your business requires the network effect (ie, any social network, etc) then losing those users makes your product less useful to people on an exponential scale.

The fact is, I don't think its a business model either. Its more like large scale marketing. The real business is the paid model, and offering something for free is merely a way of getting users to come to your site and gives you an opportunity to convert them into paying users. And as a marketing method, its pretty bad for exactly the reasons you mentioned.