Crypto believers dismiss the accusation, citing the currencies’ relative transparency of methods and lack of deception. Critics say the lack of underlying assets or government backing qualifies the crypto for the Ponzi duck test. In other words, if he walks, swims and quacks like a duck, he’s probably a duck.
As the happiest person with plain vanilla index funds, I’m not the right person to settle the crypto question. But as a Ponzi biographer, I’m certain that understanding the nature of the Ponzi schemes and the man himself is key to understanding recent comparisons. It is also useful for anyone planning to dive into the crypto pool to “buy on the dip” in price.
By definition, a Ponzi scheme is a fraud in which money from one group of people is secretly used to pay promised returns to another group of people. Think of it this way: you “invest” $1,000 in exchange for my guarantee to double your money within weeks. What you don’t know is that I have no legitimate business with any products or services. Instead, I intend to attract more investors (aka suckers) and use their money to pay you. Eventually the system breaks down when I take the money and run away, or when the withdrawals exceed the influx of new money.
The scheme’s namesake was a dashing, diminutive Italian immigrant who arrived in Boston in 1903 in search of fortune and adventure after partying out of college in Rome. During more than a decade of travels across the United States, he became a hero who donated the skin of his back and legs to save a nurse burned in an explosion. He twice became a criminal for, on separate occasions, writing a bad check and helping several of his compatriots sneak into the United States from Canada. After serving his sentence, Ponzi returned to Boston. He failed in several ventures, then concocted his version of what was called “stealing Peter to pay Paul.”
In the spring and summer of 1920, Ponzi announced that they could pay out double your money using an obscure financial instrument called International Reply Coupons. Postal mail was king at the time, especially for global communications, and these IRCs could be used to buy a postage stamp at a fixed price in over 60 countries.
A witty storyteller with a taste for flashy suits, Ponzi claimed to have developed a formula for exploiting fluctuations in exchange rates to turn IRCs into profits. For example, at the time, a person could buy 66 postal coupons for $1 in Rome, where the lira was depressed after World War I. The same coupons cost $3.30 in Boston, which theoretically meant that Ponzi could triple his money after expenses.
Ponzi coyly refused to explain how he bought enough coupons to fulfill his obligations or turned them into cash, saying it would allow copycats. On paper, the Ponzi scheme was ingenious and technically legal. In practice, it was impossible. During his rise, reporters have instead focused on his Lexington mansion and his beloved wife.
Thousands of people emptied their wallets at Ponzi’s Boston headquarters and satellite offices. He became the most talked about man in America and profited from his status as a champion of working people. “The truth is,” Ponzi told reporters, “bankers and businessmen have done a lot for themselves. . . but they did nothing for anyone else.
As he struggled to make amends, Ponzi invested in banks and considered buying a fleet of merchant ships mothballed after the war. But his past and the Boston Post caught up with him, winning the paper the first Pulitzer Prize for public service and prompting prosecutorial action. It ended badly for Ponzi and for those who entrusted their money to it.
Then the New York Times was more lenient towards Ponzi than towards investors seduced by the promise of easy money: “They showed only greed – the eagerness to get a lot for nothing – and they had none of the redeeming graces of Ponzi .”
The Ponzi scheme did not deter others. Major spikes in Ponzi referrals still occur regularly, such as when Bernie Madoff’s multi-billion dollar scam collapsed, in 2008. Before and since, countless other scams have been branded as descendants of Ponzi schemes , some more accurately than others.
A consistent theme emerges from this story. People attracted to speculative investments they don’t understand focus on the belief that it’s “too good to miss” and ignore their suspicion that it’s “too good to be true.” The only question is to whom this lesson will apply next.
Mitchell Zuckoff is a journalism professor at Boston University and author of “Ponzi scheme: the true story of a financial legend.”
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Is Cryptocurrency A Ponzi Scheme? – Tech Tribune France