Tech and Business Pearls

Schemes

Many people do not understand the difference between a Pyramid Scheme and a Ponzi Scheme. They are very different. I believe the confusion lies mainly in that they are both Schemes and they both begin with P.

A pyramid scheme depends on the idea that you buy into something, but only get paid out when you convince other people to buy in under you or from you. Thus, you have a pyramidal structure. You sell to 10 people, they each sell to 10 people (100 total), and they each sell to 10 people (1000 total), and so on. Usually, the item sold is nothing substantial. This quickly becomes unsustainable, so the last suckers to join cannot sell to anyone else, so their money loses out and trickles up the pyramid.

A ponzi scheme is an investment vehicle that promises large returns. For example, I could tell you that I have a brilliant currency arbitrage. Instead of actually earning real returns, though, I convince new investors to invest new money. I use that money to pretend I have returns to the older investors. But now, I have to start earning returns for the new investors. However, that's easy to do because I can advertise huge returns and the old investors can vouch for me that I'm legitimate. Therefore, it's easy to convince new investors to come in with more money so I can keep pretending to have high returns. Usually, ponzi schemes are broken up by the government when they get too big, according to wikipedia.

I guess they are also similar in that they involve money and are not infinitely sustainable in that eventually you run out of suckers. But that's the definition of a scheme. Otherwise, it would be a legitimate investment since it would provide returns forever.

over 3 years ago on August 12 at 1:47 pm by Joseph Perla in entrepreneurship


blog comments powered by Disqus

Hi, my business card says Joseph Perla. Former VP of Technology, founding team, Turntable.fm. My first college startup was in the education space. My second was Labmeeting, a cross between Google, LinkedIn, and Facebook for scientists. I dropped out of Princeton (twice).

I love to advise and help startups. My code on Github powers many websites and iPhone apps. I give talks about startup tech around the US and also internationally at conferences in Florence. incubators in Paris, and startups in Budapest.

Twitter: @jperla

Sign up to my Tech and Business Blog

Favorite Posts

Y Combinator Application Guide
What to do in Budapest
How to hack Silicon Valley, meet CEO's, make your own adventure
Your website is unviral
The Face that Launched a Thousand Startups
Google Creates Humanoid Robot, Programs Itself

Popular Posts

How to launch in a month, scale to a million users
Weby templates are easier, faster, and more flexible
Write bug-free javascript with Pebbles
How to Ace an IQ Test
Capturing frames from a webcam on Linux
A Clean Python Shell Script
Why Plant Rights?

Recent Posts

Venture Capital is broken
The nature of intelligence: brain bowls, cogniphysics, and prochines
Bitcoin: A call-to-arms for technologists
Stanford is startups
Today is Internet Freedom Day! DRM-free book about Aaron Swartz's causes
I help startups around the world

More...