History of the Ponzi Scheme

The well documented escapades of Bernie Madoff, the infamous scammer that is now serving a 150-year sentence in a federal penitentiary, has contributed to the recent resurgence in popularity the term Ponzi scheme. Madoff coordinated what is probably the largest and most elaborate Ponzi scheme in history, which cheated thousands of investors out tens of billions of dollars. But while we all read about the Madoff Ponzi scheme in newspapers, the definition of term is usually somewhat difficult to decipher from these contexts, and many are left wondering what exactly a Ponzi scheme is.

Simply put, a Ponzi scheme is an investment hustle that will usually promise a quick, high rate of return with limited or no risk. The catch is that the returns can only be delivered through the bilking of new investors to pay off early investors, and the rest of the cash usually goes directly into the pockets of the swindlers. Of course, investors don’t know they’ve put their hard earned dollars into a Ponzi scheme until it is far too late. The Ponzi scheme usually falls apart when new investors no longer manifest themselves, or a significant number of current investors attempt to pull out and cannot be compensated.

Three Things You Didn’t Know About Ponzi Schemes

1. Ponzi was the name of an actual person. A World War I era Italian immigrant and Boston resident named Charles Ponzi, who had already done a little time for forgery in Canada, discovered a mail system loophole that allowed him to cheaply purchase International Relay Coupons overseas and exchange them at a higher rate in the United States. Ponzi decided that his racket was profitable enough to attract investors to his newly founded Securities Exchange Company. The only problem was that he soon got bored with his scheme and decided to simply make money off his clients by shifting money between investors. When the scam was discovered in 1921, Ponzi quickly ended up back in prison.

2. Ponzi schemes are different from pyramid schemes. While Ponzi schemes do bear some resemblance to pyramid schemes in terms of sheer nefariousness and the fact that both are far from sustainable business models, the two are different animals. A pyramid scheme works by paying recruiters to enroll others into the scam, who in turn are paid when they enroll still others. Of course, new members must pay heavy initial fees to participate. Usually no actual service or product is involved.

3. Boy Band Guru Went Down Hard for Ponzi Scheming. Lou Pearlman, manager of mega groups N’Sync and the Backstreet Boys, is presently doing a quarter century’s worth of hard time for his $300 million Ponzi scheme. Pearlman got thousands of people to invest in a fake company called Transcontinental Airlines, Inc. Sadly, greed continues to overpower Pearlman’s good sense. He was offered a deal to reduce his prison sentence by a month for every million he aided in recovering, but has opted to return nothing.

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