A financial pyramid is an unsustainable investment scheme that promises exorbitant investment returns. In this case, the main feature of the pyramid is that payments to earlier participants are made at the expense of later ones. Sooner or later, the influx of newcomers dries up, and the pyramid collapses. Those who were in the beginning may end up with a good profit, but those who came last lose their money.
Pyramid schemes are also often called Ponzi schemes, named after Charles Ponzi, who defrauded investors in the 1920s with a postage stamp speculation scheme.
How a financial pyramid works
The structure of such projects is pyramidal. At the top is the creator, below are the participants. Gradually, towards the base, the figure expands as the number of people increases at each level.
The emphasis in financial pyramids is on attracting new participants. Sometimes camouflage is also achieved through the sale of some goods or services (network company). One way or another, those who want to make money in a Ponzi scheme will not be able to simply invest and sit still; they need to constantly work to attract a flow of participants, which sooner or later will definitely dry up.
Signs (red flags) of Ponzi schemes
Many financial pyramids have similar characteristics. Here are the main ones:
Guarantee of stable and high profitability with complete absence of risk. Not only is high profitability always associated with risk, as any investor knows, but investments usually do not bring stable profits - they normally rise and fall over time against the backdrop of market conditions.
Lack of registration of the company with government regulators and lack of access for investors to information about the financial condition and management features of the organization. Also – lack of licenses.
Complex and incomprehensible strategies that no one explains, in fact, simply offer to trust. You should not invest in projects whose operating principles you do not understand.
Delays in receiving payments, or payments to some rare payment systems, from where the money is difficult to cash out. It is beneficial for the creators of the pyramid to withdraw as little as possible. To do this, they may also offer increased profits for holding money in the account for a long time.
Also, unscrupulous projects are distinguished by the fact that they refuse to give participants any information that goes beyond what is publicly available. Often there are no contacts at all where you can write and ask a question.
Comparison with BTC. Why Bitcoin is not a pyramid scheme
Many, not understanding the technical features of cryptocurrency and knowing only that it can bring profit, have dubbed Bitcoin a financial pyramid. This judgment is wrong, and for the following reasons:
No return on investment is promised. We are now talking specifically about the Bitcoin technology itself, invented in 2009 by Satoshi Nakamoto, and not about pseudo-investment projects that parasitize on cryptocurrency in the same way as on fiat. For the first year and a half of its existence, BTC did not have a quoted price at all, it was more of a technical experiment.
Full transparency. There are public records of every Bitcoin transaction going back to the very first one. The source code is open. No secrecy, unlike Ponzi schemes. Only distributed software, changes to which cannot be made without the consent of the majority of the community (miners). The key principle of Bitcoin is not blind trust, but rather complete verifiability.
No difficulties in receiving payments or bureaucratic delays. The whole point of Bitcoin is to not rely on any third parties. Bitcoin can be moved using a private key associated with a specific address, and if you use the private key to move your BTC, no one can stop you from doing so.
There was no pre-mining. This means that starting from the first coin, they are all fully available to the community. Satoshi mined the first BTC at a time when it was publicly available, no special equipment was required, so anyone could do it. Unlike Bitcoin, some modern crypto projects practice pre-mining, that is, they keep part of the coins for themselves even before releasing the project to the public. A situation where the creator does not give himself a mining advantage over early adopters is undoubtedly the cleanest approach.
Growth without centralized leadership. Satoshi is an anonymous inventor who worked with others for the first two years to guide the development of Bitcoin and then disappeared, and it is still not known who he is. Other people are continuing the development, and, as already mentioned, they cannot make any changes without the consent of 51% of network participants.
The only “red flag” could be that the organization is not registered anywhere and is not regulated by anyone. You can regulate centralized exchanges, but you cannot regulate the technology itself. It is completely decentralized and it is impossible to pass a law prohibiting its use. Bitcoin operates outside of the classical financial system. However, regulators are not giving up, especially with many institutional investors showing interest in digital currencies.