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No. 2286:
Of Ponzis and Pyramids

Today, we ge rich quick. The University of Houston's College of Engineering presents this series about the machines that make our civilization run, and the people whose ingenuity created them.

The Internet has become such a slick tool for con artists. I suspect that crooks had to be a lot more clever and convincing back in an age when high tech was not at their disposal. 

Carlo PonziTwo of the famous historical con games, Ponzi and pyramidschemes, are quite old. Both call up the old saying, beware of being the last one in. First, Ponzi: Charles Ponzi, born Carlo Ponzi in Lugo, Italy, in 1882, didn't invent the Ponzi scheme. He just took it to new heights. He caught a ship to Boston in 1903, did odd jobs for a while, then moved to Canada, where he was soon thrown in prison for forging a check. 

When he got out, he went to Atlanta. He was soon back in jail for smuggling illegal immigrants. 1918 found him in Boston where he married and set out on a legal enterprise: creating and selling a large business listing, a precursor of today's yellow pages. 

When that failed, Ponzi hit upon the plan that would immortalize his name: In use at the time, was a form of legal tender called International Postal Reply Coupons or IRCs. Suppose Ponzi wanted to send a letter to someone in Italy who couldn't afford return postage. He'd include an IRC to pay the postage. Ponzi saw he could buy these coupons in one currency and sell them in another, for a profit. That's called arbitrage,and it's perfectly legal.

Then Ponzi began selling shares in his enterprise. He promised 50 percent interest in 45 days. A few people signed up and, sure enough, they made money. So more investors appeared. Ponzi hired sales agents. He was soon making a quarter million a day, but not on the deal itself. His profits depended entirely on bringing investors in, faster than he paid money out.

Ala Littoria flyerCompare that with a pyramid scheme where profit is deferred. I might get a chain letter asking me to return one dollar to the fifth person down the chain and to send the letter forward to ten more. When the letter reaches people five steps beyond me, I get money from all ten million of them. But, by then, the market is flooded and the scam exposed. Pyramid schemes promise payment from someone down the line. Ponzi schemes pay off in the short term and depend on attracting new fools faster than money gets paid out. 

Of course Ponzi was caught and spent time in and out of jail. Next he switched to a pyramid real estate scam in Florida. More jail time there. Finally, in 1934, he was deported back to Italy, and his wife divorced him. Finally Mussolini made him manager of the Rio de Janiero branch of the new Italian airline, Ala Littoria.

The airline collapsed with WW-II. They say Ponzi died a few years later in a Rio charity ward; but did he? Just look around: we see him stirring unsustainable income streams everywhere. He smiles at stock-market bubbles. He revels in tax cuts accompanied by skyrocketing indebtedness to other countries. Ponzi is there at our side every time we open an email from a rich widow in Nigeria. He lingers, alas, as the constant companion our own avarice.

I'm John Lienhard, at the University of Houston, where we're interested in the way inventive minds work.

(Theme music)

S. Silverman, Lindbergh's Artificial Heart. (Kansas City: Andrews McNeel Publishing, 2003): pp. 122-127.

See also:

My thanks to UH economist Tom DeGregori for additional counsel.