• Luke Levine

Wait. What if Crypto is Just a Giant Ponzi Scheme?

Here's the deal. I have a fantastic investment opportunity for you. I invest in these complex crypto currencies. The returns are great and the strategy I have is low risk and bullet proof. If you invest $1000 today I guarantee that you'll see a 50% return in just 45 days. Here's a high profile customer who'll vouch for me - just ask him. Tell all your friends about it too and get them involved, it's easy money.

Some people think crypto is a giant ponzi scheme so I wanted to address this....

The above is clearly me making an example of something that's too good to be true. Hopefully you weren't about to wire over $1000. If you did however, the way "my" Ponzi scheme would work is this...

I'd take that money, split it in two and give it to investors who'd put their money in 45 days ago. I wouldn't actually need to invest in cryptocurrencies at all, though I'd keep that bit secret. As long as more people keep putting their money in, I can keep just giving it back as "guaranteed returns". I'd take some too, clearly. Everyone's happy.

The OG of Ponzi schemes

It might seem like a pretty obvious scam, but you'd be surprised. Once the returns are flowing, the people will come. My example is very similar to that orchestrated by the man who ponzi schemes were named after, Charles Ponzi. Back in the 1920's he promised a 50% return in 45 days for investing in postal relay coupons. Word quickly spread, it got hugely popular and over the space of one year he took in $20m dollars, which was a lot of money back then. The scheme finally came crashing down when the someone realized the number of coupons he'd need to make these kind of gains was 6000x more than were circulating in the entire world. He was busted.

How about more recently?

The most famous modern day example is Bernie Madoff, whose operation used the same principles but in a more subtle way. He didn't promise anything but his returns were consistently above average, which kept the customers coming. He provided statements for the"fund" they were invested in and money could be withdrawn at any time. It looked legit and when the returns are so good, there's no reason to withdraw. Things got out of hand for him and he ended up taking in $20bn from investors (which they thought had grown to $65bn). When the financial crisis of 2008 hit, his customers simultaenouly tried to take $7bn out of the fund... but alas he only had $300m in the bank. Again, busted.

Back to Crypto...

Crypto clearly isn't a Ponzi scheme in the above sense. Many still think that it is one though. This is the argument...

Here's the deal. I have a fantastic investment opportunity for you! You invest in this thing called Bitcoin. It has no use and is not actually worth anything, zero in fact, but that's ok because people keep buying it anyway and the price keeps going up. Buy it today and make sure you sell it before the masses do. It's already up 300% this year. Tell all your friends about it too and get them involved, it's easy money.

That one makes more sense and is actually more of a pyramid style scheme.

Is Bitcoin just a decentralized ponzi / pyramid scheme? Promising fantastic returns to everyone but the unfortunate few who buy at the top or fail to sell before it ultimately goes back to zero?

It depends on whether you believe in the statement "It has no use and is not actually worth anything". If you really do believe that then you can rightfully write the whole thing off as the biggest scam the world has ever seen. You may be wrong however.

I'd argue Bitcoin has value as follows.....

There is value in Bitcoin's scarcity as the supply is fixed. As a result it is becoming widely recognized as "digital gold". There is a proven use case in payments (legal and non legal), cross border money transfers and as a store of value. It has the potential to reinvent the world's economic system if things go well. Businesses are built around it. Regulations are set around it. Everyone wants to copy it.

I'll stop there. Those things all imply some kind of value. Except however, for the last one. "Everyone wants to copy it". There is no necessary value in the copy... meaning the other value arguments don't automatically come with the said copy.

So if anything, I'd argue it's the copies that are more likely to be ponzis / pyramids / scams. I'm not saying they all are, because they are not. Many however will ultimatley prove to have no use and have no value. As I've said a few times, be very careful when looking at "alt coins". The idea of reaping great returns for potentially finding the next big thing is enticing. They may not intentionally be there to take your money away from you, but many ultimately will.

I'm sure Charles Ponzi had best intentions when he started his scheme. Eventually though, it fell apart. If it sounds too good to be true, it probably is.

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