Ponzi Schemes in Ponzi States

Is Florida a giant Ponzi scheme as Neil Macdonald of the CBC suggested?  Or is it perhaps that The United States is The Largest Ponzi Scheme in the World as Bill Bonner described.

Now Nouriel Roubini of Forbes confirms that view: it is The United States Of Ponzi.

Behold the Madoff in the mirror

Americans lived in a “Made-off” and Ponzi bubble economy for a decade or even longer. Madoff is the mirror of the American economy and of its over-leveraged agents: a house of cards of leverage over leverage by households, financial firms and corporations that has now collapsed in a heap.  When you put zero down on your home, and you thus have no equity in your home, your leverage is literally infinite and you are playing a Ponzi game.

If you are not sure exactly what constitutes a Ponzi scheme, here is how the Security and Exchange Commission (SEC) describes it

“Ponzi” Schemes

Ponzi schemes are a type of illegal pyramid scheme named for Charles Ponzi, who duped thousands of New England residents into investing in a postage stamp speculation scheme back in the 1920s. Ponzi thought he could take advantage of differences between U.S. and foreign currencies used to buy and sell international mail coupons. Ponzi told investors that he could provide a 40% return in just 90 days compared with 5% for bank savings accounts.

Decades later, the Ponzi scheme continues to work on the “rob-Peter-to-pay-Paul” principle, as money from new investors is used to pay off earlier investors until the whole scheme collapses.

As the SEC points out it is a type of Pyramid Scheme.

Pyramid Scheme

In the classic “pyramid” scheme, participants attempt to make money solely by recruiting new participants into the program. The hallmark of these schemes is the promise of sky-high returns in a short period of time for doing nothing other than handing over your money and getting others to do the same.

The fraudsters behind a pyramid scheme may go to great lengths to make the program look like a legitimate multi-level marketing program. But despite their claims to have legitimate products or services to sell, these fraudsters simply use money coming in from new recruits to pay off early stage investors.

The SEC chart below shows how pyramid schemes can become impossible to sustain.

SEC pyramid

You may ask how does all this relate to what has been happening in the United States of America.  In what sense is that a Ponzi Scheme?  Perhaps the image below can typify what is involved.

ponzi pyramid

The top part of the pyramid is what a company or individual has created in the past in assets.  Often starting with zero, a worthwhile pile has been created.  Everyone assumes that things will continue to grow in the future in the way they have in the past.  People borrow to create the even bigger future that is the base of the pyramid.  The lenders believe the promises and provide the funds to support the growth. 

However just like the Ponzi pyramid there is a limit to growth. The Past was solid, the Future is unknown. They are all dreaming in Technicolor.  Eventually it turns out their pyramid is build on a base of sand.  The whole edifice collapses.  Welcome to the world of Ponzi.

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2 thoughts on “Ponzi Schemes in Ponzi States

  1. Wow. I had never thought of it that way before, but that’s what credit is all about, especially when you both pay on credit and accept credit from people who pay you (or your employer, same thing).

  2. I agree with the fact that the overextension of and overreliance on credit are primary factors in the collapse of the US financial and real estate markets. Add to this a blind dependency on the fallacy that a traditional financial market will always produce above average returns of X% a year, and you get the inevitable creation and destruction of a nasty bubble.

    The Madoff Ponzi Scheme is just a natural byproduct of the cash shortage that this financial collapse, and all other major collapses, cause. When enough people redeem their investments from Ponzi and Pyramid Scheme outfits, they inevitably collapse and their fraudulent veils are lifted.

    The US is not alone in this game. On February of this year, Allen Stanford’s $8 billion Ponzi Scheme hit the wires. This scam involved the sale of bank CD’s through his Antiguan-based Stanford International Bank.

    The main culprit here is not the US, the greedy bankers, or the regulators who [purposefully or not] fell asleep at the wheel; it is INVESTOR GREED. It was greed that made Madoff’s investors overlook important facts before riding the fraudster’s merry-go-round.

    In addition to acting as the investment manager, Madoff was also the custodian and administrator of the program. This is a no-no in the world of investment transparency and due diligence. Before investing in anything, each investor has to make sure that the money manager is separate from the custodian (holder of the funds) and the administrator (the one that verifies where the funds are held and does the accounting and reporting for the customers). A third-party administrator is a must.

    Amidst all the finger pointing and name-calling will investor’s learn their lesson? Time will tell. Investors have a long and painful recession ahead of them to reflect on the consequences of their actions.

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