Ponzi Schemes

by Wholesome Rage | 9 November 2021

God. Okay. This is going to be a fun one. My favourite articles come from assuming something is common knowledge and being told it isn’t.

Okay so almost everyone has heard of Ponzi schemes. The label gets thrown around a lot, but I realized I don’t actually see it get explained when it’s used. It’s what George Orwell would call a dead phrase - in the same way that ‘swan song’ doesn’t actually make you think of a swan, ‘Ponzi scheme’ has just come to mean ‘scam’ in the same way.

The problem with not explaining it, though, is most people think scams are obvious. They immediately think multi-level marketing, pyramid schemes and Nigerian prince emails, something that happens to other people. Stupider people.

Ponzi schemes are the stuff of nightmares, though. Men as brilliant as Sir Isaac Newton have been bankrupted by them. Bernie Madoff conned Wall Street investors out of between $17 and $60 billion dollars - depending on how you count it - in a scam that ran from 1992 to 2009. Even when he was the subject of a federal investigation in 2000, he wasn’t caught.

If these schemes are robust enough to pass federal investigators, why should we expect better from journalists? If Enron could get on the front page of Forbes and Fortune, why should we be surprised when the Rolling Stone not only endorses, but partners with the Bored Apes NFT, what I would call a clear example of an ongoing Ponzi scheme.

More than just how they actually work, I want to explain how these scams are so effective at recruiting people and the effect it has on people inside one. The technical explanation is enough to explain why very clever people will still be tricked, but scams that rely on ongoing trust from their victims are especially vicious and destructive.

At its most basic:

I have one dollar, and one friend. I would like more dollars and no friends.

I tell my friend: I have a great idea to make money, I just need some start up. If you give me a dollar, I’ll have two dollars by the end of the month. It sounds too good to be true, but they give me the dollar anyway.

At the end of the month, I give them the two dollars - the two dollars we started with. But I say it’s just their dollar and I doubled it. Then I say; “Would you like me to do it again?”

Now they know that they know I’m good for the money, they’ll give me back their two dollars, expecting four next month. This would be a problem, but they’ve told two friends about it. Now those two friends each give me a dollar.

At the end of the month, I show the first friend the four dollars I have, and tell them I can double it again.

A year later, a hundred people have lost their savings, and I’m living in Bermuda under the name Aaron Nonymous.

They’re not always so basic:

The previous example is the most basic kind of Ponzi scheme, but it would be a mistake to think they’re all so ‘obvious’.

Usually Ponzi schemes have a clear product or promise: There is a plausible explanation on where the money is coming from, why it requires outside investment, and why only the Ponzi scheme’s architect is able to make money this way.

What I mean is, investors need to understand why they couldn’t take their own money and do what the Ponzi scheme is claiming to do. They have to understand why they couldn’t cut out the middleman. If the Ponzi scheme is claiming to beat the market, there needs to be a reason for it.

I just described an accountant, or even just your interest-earning bank account.

A family accountant who allocates your savings into safe investment portfolios matches this description perfectly. You understand why they’re not using their own money, there is a plausible reason for where the new money is coming from, and you understand they have a level of expertise you don’t. The returns are only modest, so there’s no need to justify a unique position of advantage.

Consider this: For the last fifteen years your family accountant has managed your savings and your retirement fund. Now you wake up to a phone call from the police. All your money is gone and there’s no way to get it back. Five years ago your accountant lost too much in a bad investment and, rather than explaining the loss, pretended everything was normal while they took more aggressive investment strategies to make up the loss, covering for these gambles with the money from other clients.

Those bets never paid off and now there’s nothing left.

You have just been the victim of a Ponzi scheme, but what you had bought into was a legitimate business. At no point did you fall into a scam - a scam was constructed around trust that was initially well-placed. There was never an attempt to scam you and, from your perspective, nothing had changed in a way you could have noticed.

This is the situation a family member of mine put his clients through, for which he is now in prison.


Ponzi schemes fail when early investors cash out faster than the con artist can bring in new money. There is a constant balance between needing to offer high enough payouts to draw new clients fast enough without your old investors bankrupting you.

More enduring Ponzie schemes thrive by maximizing new investment and minimizing cashing out. An optimal scheme relies on investors who don’t bother trying to cash out - the scheme collapses the moment someone cannot be paid in full when they try.

A badly run Ponzi scheme can quickly end with the scammer giving all their money to their intended victims, while a masterful one can run for decades. However, the supply of new investors is not infinite. A Ponzi scheme can only ever fail, it’s a matter of when.

More of an inverse funnel

Ponzi schemes are distinct from pyramid and multi-level marketing schemes, because those require the active participation of their victims. Victims are encouraged to become complicit scammers themselves, either by trapping them in debt or by appealing to greed.

In a pyramid scheme, people invited into the scam are told that they get a cut of the money of everyone they, in turn, bring into the scam. In Ponzi schemes, the marks are unaware that their payout is dependant on new investors. The proselytizers and recruiters of Ponzi schemes, though, can be far more convincing because they are authentically convinced. There’s no need to lie or consciously manipulate, but these targets will still act just as fiercely as recruiters for the scheme to satisfy an emotional need.

Just, work with me here a moment;

Consider your partner’s just proposed. You’re so excited and you _need _to tell everyone, but your best friend tells you that it’s a bad idea and you can do better. There are two possibilities;

1: Your best friend is right. You have been in a bad relationship for a long time, and you should probably end it now.
2: Your best friend is wrong and, actually, kind of an asshole. You have a great fiance.

One option hurts less.

This isn’t just sunk cost fallacy, because nothing is ‘sunk’ yet. Your relationship is only bad if they’re right. You keep something good if they’re wrong. You throw something good away if you believe them and they’re wrong.

So you need reassurance. You need someone else to believe you, so you can trust your own judgement. It’s going to feel great if you can, and awful if you can’t. You’re going to be very motivated to tell people just how great your fiance is, and the more doubt you get, the harder you need to convince people.

Being caught in a Ponzi scheme is just a different kind of abusive relationship.

This is the mindset of someone in a Ponzi scheme. They’ve seen other investors get rich from this, and they want that for themselves. They have clear proof that it works. And it will! Right until it won’t.

When a scheme has made someone a lot of money, they’ll be excited to talk about it and share the good news. And, inevitably, they’ll be warned about something being too good to be true. The feedback loop is the same: Either I’m a sucker, or I’m making good money. And I need people to know I’m not a sucker.

The Ponzi scheme grows when these marks can convince people. And they can be very convincing, especially when we talk about one last piece to this that provides an objective proof of the scheme’s legitimacy, enough to sucker Sir Isaac Newton himself out of the modern equivalent of $3.5 million:


Speculation is injecting a Ponzi scheme with rabies and letting it loose.

The South Sea company had humble origins as a financial scam intended to overthrow the Bank of England, and grew in scale from there. There’s a lot of wonderful history to this, but I’ll keep to the relevant details.

Essentially, the South Sea company was granted a monopoly on the slave trade to South America. It promised profits from the sale of African slaves to South American colonies, and from those colonies new world goods would be sold for high prices in Europe, which would then be used to purchase more slaves for the colonies.

This was a plausible venture. The “triangle trade” was devastatingly profitable in its history. However, the scam wasn’t based in trade that was happening; It was based on the profit that was going to be made.

This meant that when the company sold shares, they were entirely unmoored from reality. The price only reflected what people thought they could be worth. And the faster the share price went up, the more people thought the shares were worth.

This was vicious. People who bought in were making fortunes, and the people who cashed out were loudly regretting it - they could see they could have made so much more if they held out a little longer. This created a two pronged attack on the unconvinced. Not only were they being prosletized by shareholders, but so many who had played it safe would regret it as they lost out on fortunes for their prudence.

The price of a share went from £100 to £1000 in a year. The price of doubt was losing out on making ten times your initial investment. A year later, they were worthless.

Speculation makes a Ponzi scheme so much more vicious. If the shares are based on what everyone agrees they’re worth, then how could so many be wrong? Moreover, the promise of those earnings isn’t coming from someone trying to sell you something. It’s coming from your own head, your own fear of missing out.

Enter cryptocurrencies.

Cryptocurrencies do have one legitimate use; They are an effective stock index for organized crime. Beyond that, they are pure speculation, untethered from reality.

What makes crypto such an interesting Ponzi scheme, though, is that while the environment is full of cons and con artists, the currency itself exists as a Ponzi scheme without a conscious architect to profit from it. It has achieved decentralization in that way, at least.

NFTs are a next step to this. When the coins themselves are so abstracted, NFTs serve a role in this scam by attaching the coins to something of a tangible value, through artificial scarcity.

And it is very artificial. Victims of the NFT scheme call skeptics “right clickers”, mocking them for believing they could own a digital image by right-clicking it and hitting ‘save’. This is because the NFT suckers are idiots.

Artwork has speculative value. As a result, what buyers are purchasing isn’t what they believe the artwork is actually worth - usually it’s a truly godawful procedurally generated piece of clipart made from a character-generator worse than what you’d find on Deviantart. What they’re buying is their ability to flip it, later, when demand rises.

It’s really important to remember that you are going to be seeing a lot of people get rich from these schemes, and it’s going to be really tempting to throw your lot in. Fools and their money are not being parted soon enough, frankly.

That feeling is what is driving that demand, though. The money given to investors cashing out right now is not coming from any real value being generated or created. It is the money of new investors coming in, your money.

There are no guarantees on when the music stops on the game of musical chairs. It’s not a game worth playing.

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