Pyramid Scheme Definition
A Pyramid Scheme is a fraudulent investment strategy, generally recognized as an illegal practice in many countries. The scheme relies on participants recruiting others to invest money into the program. The returns for the initial promoters are paid out of the investments of new entrants, instead of from profits of a legitimate business.
Pyramid Scheme Key Points
- A pyramid scheme is a business model that recruits members via a promise of payments or services for enrolling others into the scheme, rather than supplying investments or sale of products.
- As recruiting multiplies, recruiting becomes quickly impossible, and most members are unable to profit; as such, pyramid schemes are unsustainable and often illegal.
- Pyramid schemes have existed for at least a century in different guises.
What is a Pyramid Scheme
A Pyramid Scheme is a type of investment (often illegal) where each paying participant recruits two further participants, with returns being given to early participants using money contributed by later ones. Such a structure may be schematically represented as a pyramid, hence the name. The earlier the investment, the higher the risk of loss when the pyramid scheme eventually collapses.
Why Pyramid Schemes are created
Pyramid Schemes are created as a way for the original promoter to make money. By enticing initial investors and agents into the scheme with the promise of high rewards, they can rapidly achieve significant cash flow. However, it’s important to remember that these schemes are typically illegal and unethical, as they rely on deception and can lead to large amounts of lost money.
Where may Pyramid Schemes occur
Pyramid schemes occur globally, often advertised online, via personal connections or through direct contact with the scheme promoter. They can occur in any industry or community and target individuals of all demographics. In recent years, pyramid schemes have become particularly prevalent in the cryptocurrency industry.
When do Pyramid Schemes collapse
Pyramid schemes collapse when they can no longer attract new investors, which is inevitable since the pool of potential investors is finite. When the scheme stops expanding, there is no longer enough money to pay the promised returns or even to refund the initial investments of the latest entrants, thus leading to the collapse of the scheme.
How to identify a Pyramid Scheme
Typically, the red flags of a pyramid scheme include: focus on recruiting rather than selling a product or service, promise of high returns in short time for doing nothing other than handing over your money and getting others to do the same, and the lack of a tangible product or a non-transparent business model.
