Financial pyramids - how do they work?

Pyramid scheme - is a common phrase that pops up from time to time. Upon hearing it, many people will think of MMM, the Bernard Madoff story and other examples. Nevertheless, these are only examples, and the general view of what pyramid schemes are and what they are like is not common.

It must be said that there is no established and universal definition of pyramid schemes, and often you can find only descriptions like "uncontrolled investment schemes" or "unsustainable business models". What is this "instability" and why it occurs, we will tell in this article.

History knows a large number of pyramid schemesThe various types of signs and arrangements of which seem, at first glance, to be very diverse. However, all pyramid schemes There is a common characteristic principle that also explains why they all end up collapsing.

The general principle of pyramid schemes - the game "in the bag"

So, the main feature pyramid schemes is that in the course of their work the monetary contributions of participants are simply redistributed. In other words, money invested by the participants in the pyramid does not participate in the production of goods or services, and therefore the total amount of funds always remains equal to the total deposits investors - Only the owners of the funds change. It is like simply collecting money in a sack and then handing it out consecutively to the participants in the game according to one rule or another. It is clear that all participants will profit from such a sack games In the best case everyone can stay with their own money, but more often pyramids are arranged so that the first participants get more than they invested, and so the latter simply have nothing left. Now it is clear why any pyramid schemes sooner or later must collapse - it is impossible to make everyone richer simply by transferring funds.

To arrange such sack games is considered fraud and is illegal in most countries (including Russia and Ukraine). However financial pyramids under this or that name arise despite the restrictions of the law - why? Most pyramid scheme organizers use the promise of very high profits to attract players, and game participants, because of their credulity, take the bait, not checking the legality of the game, and often do not even realize that they are participating in the game "in the bag" with the inevitable finale.

Two main types of pyramid schemes

All pyramid schemes can be divided into two types:

- multilevel pyramids;
– Ponzi schemes.

Multi-level pyramid

This scheme is based on the fact that each new participant of the pyramid, a newcomer, first makes his entrance fee. This fee is immediately divided between the participant who invited the newcomer and those who invited the invitee, i.e. earlier participants of the pyramid. After the entrance fee, a novice must invite two or more people whose entrance fees will go to his benefit and to the benefit of the earlier participants. This continues from level to level.

Depending on the rules pyramids: the amount of the entrance fee and the number of new participants that each "newcomer" must bring - the promised profits may vary, but they are usually quite large.

The amount of entry fee and the number of participants to bring a newcomer varies depending on the rules of the pyramid. So, for example, if by the rules to invite you need three people, and the entry fee is 1000 rubles, and this fee is divided in half in favor of the inviting and the one who led to the game inviting, then simple arithmetic suggests that if you succeed you will spend 1000 rubles to "enter" and eventually get 6000 rubles (1500 from those three participants, which you will invite and another 4500 from those whom they will invite). Thus, the yield of the scheme will be 500%, which compared to the bank deposit is really impressive.

However, you and I discussed at the beginning why any toss in the bag" game ends . The reason why it collapses tiered pyramidis that the number of participants in the scheme must grow very rapidly (exponentially) in order for it to work. At such a rapid pace, often even the entire population of the country is not enough to provide the first 10-15 stages of new participants. Not surprisingly, as a result, those who have paid their entry fee, but not found new participants, do not get anything. Participants who are left with nothing, according to statistics, usually more than 80-90%.

Financial pyramid scheme - Ponzi scheme

The scheme got its name from the American Charles Ponzi, who organized this type of pyramid scheme in the United States back in the early 1920s. Although similar schemes had been known before, it was Charles Ponzi scheme that first involved so many people that it received widespread publicity in the United States.

The essence of this type of game "in the bag" is that its organizer invites participants to invest money and promises a very high and often "guaranteed" income after a short period of time. There is no need to attract new participants - you just have to wait. To the first few participants the organizer pays high interest income from his personal funds, after which rumors about the "working" scheme with excellent profitability are usually spread, and new depositors come to the organizer by themselves. Next, the organizer simply pays off the old depositors with the money that comes from the new depositors. toss in the bag" game works. It is clear that as the first participants actually receive the promised income, the number of willing participants grows, and in addition, older participants begin to re-invest - the organizer experiences an increase in the inflow of funds.

Pyramid scheme called a Ponzi scheme comes to an end for a simple reason: every depositor expects to get more than what he has invested, while the organizer receives no other income than these deposits - thus the scheme is doomed to collapse. This is usually best understood by the organizer himself, so often the moment the flow of new depositors begins to "weaken", the organizer appropriates all the deposits already made and goes into hiding.

Interestingly, the well-known MMM and Bernard Medoff Investment Company used exactly Ponzi schemes.

Comparison of Ponzi scheme and multilevel pyramid

In principle, both schemes are redistribution of funds, only with different rules and speed of outcome. Here are the main differences:

For an appetizer

Organizers pyramid schemes are quite inventive about how to present the game "in the bag" in order to persuade to participate in it. Thus, organizers of multi-level pyramid games often come up with additional attributes of "serious business" in order to disguise the essence of the game. For example, trading in goods 1 Or even growing flowers.

The author of this article is aware of a curious Ponzi schemeIn this presentation, participants were invited to invest not in magical foundations or projects, but simply to grow unique flowers. Potential participants at the presentation were told that some scientists have developed amazing flowers, which help in the treatment of serious diseases. While such flowers are few and therefore they are very expensive. Participants were offered a unique opportunity to grow such flowers at home.

Each participant had to buy seeds at a price of $500 apiece from the organizing firm and then plant a flower at home, which grew after 3 months and the organizing firm was ready to buy it back at a price of $1000. Information about the miraculous flowers and the income from their cultivation spread very quickly and soon many people were queuing up for seeds at $500.

It is clear that the organizing firm paid the first participants from the funds received from the sale of seeds to new flower lovers. At some point, the organizers felt that the "boom" of new participants had passed and an influx of participants with already grown flowers would soon begin. The organizers decided to maximize profits and disappeared.

1 It should be noted that in this way the organizers pyramid schemes are disguised as legitimate network marketing schemes, which are not fraudulent because they provide certain services for the distribution of goods. A clear distinction is pyramid schemesThe main reason for this is that the goods themselves are often worth far less than the entry fees of the new entrants. That is, the goods are merely "chips" in the game of "bagging.