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Pyramid and Ponzi Schemes

Pyramid schemes and Ponzi schemes are basically two terms for the same scam and are often used interchangeably. Not all such schemes are easy to understand, but the principle is always the same.

A pyramid scheme is a business model that requires a constantly growing number of participants to function, for which every new member recruited a commission is paid, like a snowball rolling down a slope and constantly growing.

Profits for participants arise exclusively from the fact that new participants join the systems and invest money without receiving any service or product. This is because profits for those who invest in such a system are only made if new participants keep investing money. Winners at the top – losers at the bottom. These systems rely on infinite growth under finite conditions and are therefore fundamentally unstable. As a rule, they collapse within a few years and eventually lead to a complete breakdown of the system.

In most countries, these systems are clearly classified as illegal and are banned.

Despite the similarities, there are clear differences. What both systems have in common is that the number of participants must increase exponentially in order not to collapse (although the Ponzi scheme has much higher growth rates), and that the contributions of new participants are used to cover the profit distributions of existing participants.

But the main difference is:
In a pyramid scheme, the founders of the scheme are known to the participants, while the source of the profit distributions is concealed. This is not the case with Ponzi schemes.

What is an illegal Ponzi scheme?
A snowball system is characterized by the fact that the customer receives benefits that don’t lie in the sale of a good or service but rather in the recruitment of new participants in the system.

Five points that can indicate a snowball system:

  1. The participants receive an advantage related to assets for the mere recruitment of new people.
  2. Participants must make a a considerable entry investment.
  3. Participants have no right to return unsold products for a refund of the purchase price.
  4. The structure of the system or the calculation of commissions is not transparent.
  5. The products can only be sold by participants to other participants within the system.

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