This post is not an attempt to promote my website but I need serious answer. I am currently investigate about the cause of the swing in ranking along the currently Google dance. Most of things are in place but I think I have linking to too many internal pages. All of the pages has quality and unique content but linking on sidebar for each and every page might be an negative effect if do it too many. I am considering to decrease the internal link. What do you think? My website is here. Thank you in advance.
Your home page has 200-225 followed outbound links... That is not very excessive. It's quite common for pages to have that many. There is not real limit to the number of outbound links anymore that Google will crawl. I frequently see (but don't agree with) sites having 500, 600, 700+ outbound links. I think doing so dilutes the effects (flow of PR and flow of relevancy) of those links and actually confuses Google as to which pages are most important to be indexed. Personally, I prefer to keep the number of outbounds well below 100, like... 30-50 max if possible. Reducing the number of outbounds will 1) cause more PR to be passed out to each of the outbound links, 2) gives Google a better idea of which pages on your site are most important, and 3) forces you to rethink your linking structure and to consider options like Theme Pyramids as described by Brett Tabke 4 posts down on this thread.
I agree with Canonical. He gives very good advice as usual. I also prefer to keep the number of links per page to under 100, but I aim for under 50. If you have too many links on a page, you aren't sending enough PR to your most important pages. Blogs seem to have started the trend of having 100+ links in the navigation menu, but that is not following best seo practices. Having too many links per page may also make it difficult to get all of your pages indexed.
If these internal links are for the benefits of your site's users, then I suggest you do not decrease them. On the other hand, if bringing down the number of links to 100 will cause no problem to your site visitors, then you should do it. However, if your site's ranking has changed, then I think there can be some other reason for that. Having too many internal links will dilute the PR that passes to each page, but drop in SERPs, does not seems to be connected to internal linking.
If you don't want to pass too much PR value of your homepage, then you should make some less important links as nofollow.
If your internal links are important for navigation of your site, then you NEED them. My website of around 4000 pages has massive amounts of internal links. You can go from ANY page to ANY other page in a MAXIMUM of 6 clicks. Without a massively complex internal linking scheme that would not be possible. When you search Google (http://www.google.com/search?hl=en&q=site:mmerlinn.com&btnG=Search) you find that Google has indexed 3610 of those pages while not indexing about 400 or so with "noindex" META tags. Do massive numbers of internal links affect how Google indexes pages? Only to the extent that Google needs to find and follow all of them. Beyond that I seriously doubt that excessive internal links harm your ratings in any way. If they did, my site would not be indexed by Google at all.