“I can’t believe you fell for that Ponzi Scheme!” or “Sounds like a pyramid scheme.” These phrases are often the dismissive responses Bitcoin evangelists receive when attempting to educate friends or family. Let’s take a closer look at why.
In the 1920s, the practice of promising large or consistent returns on a fraudulent investment scheme became known as a "Ponzi scheme" after notorious scam artist Charles Ponzi promoted a fake investment opportunity but siphoned off funds for himself and paid off older investors with new investors' money.
Why would anyone compare bitcoin to a Ponzi scheme? There are two reasons.
First reason -- the huge returns. In a Ponzi scheme, high returns are paid to the original investors from available funds in order to encourage them to reinvest and provide testimonials designed to entice new invstors. In the case of Bitcoin, those who acquired this new digital asset when the demand was relatively small have seen a dramatic increase in market value due to a surge in adoption. Bitcoin benefits from the network effect in much the same way that the telephone, the Internet, and Facebook have. Since bitcoins have gone from being virtually unknown to being desired by a much larger audience for a variety of reasons, those that don’t recognize the sea change compare it to “investments” with returns that seem too good to be true.
The second reason Bitcoin is sometimes compared to a Ponzi scheme is the passion that accompanies some of its holders. For the Ponzi scheme promoter, fervency is a matter of survival; if new money does not come in, the facade of ever increasing profits collapses since there will never be enough to make everyone whole. Enthusiasts often become enamored with Bitcoin for ideological reasons, referencing social problems that might be addressed more effectively using this disruptive technology. Considering that activism toward social issues is usually accompanied with an emotional involvement, it should be no suprise that Bitcoiners will sometimes even refer to themselves as "fanatics."
For a Ponzi scheme to work, however, it is critical that only the Ponzi promoter and co-conspirators know the truth behind any "investments", because any type of audit or transparency will collapse it instantly. This reason alone is enough to rule out the possibility that Bitcoin is a Ponzi scheme.
Bitcoin cannot be a Ponzi scheme as it is the ultimate in transparency. It is so transparent that there are dozens of websites that list every transaction anyone has ever made. Every fraction of every bitcoin in existence can be traced from its origin to its ultimate destination address. The only thing we don’t know is who owns the keys to these addresses, and we should keep it that way.
But beware, bitcoins can be used in Ponzi schemes, in the same way scammers might use dollars, yen, euros, or gold. The tell-tale signs of a Ponzi scheme will be large percentage returns, the requirement to send your bitcoin to someone else to get these spectacular returns. Thankfully, if you remain the sole holder of the private keys for your bitcoin you will be safe from any Ponzi scheme.
Does Bitcoin need more people using it to continue its increase in value? Sure, but Coca-Cola (NYSE:KO), Apple (NASDAQ:AAPL), and Amazon (NASDAQ:AMZN) also need more customers. Increased demand or usage translating into increased value is shared with almost every company, stock, bond, commodity, and currency in existence.
Some curmudgeons complain that the early adopters did really well. Yes they did, in much the same way venture capital firms that recognized the early potential of Facebook (NASDAQ:FB), and Twitter (NYSE:TWTR) did really well.
Sadly though, most residents of the US are not allowed to invest in early stage companies because they are not accredited investors. Even if you use your own money, early stage companies cannot let you be a part of their growth and success unless you are quite literally a millionaire. Bitcoin has no such restriction because, unlike its earlier centralized predecessors like eCash, DigiCash, and Cybercash, Bitcoin can’t be intimidated, bribed, fined, or arrested.
Bitcoin is a revolutionary global payment network that sprang into existence on January 3rd, 2009 with no promoter, and nobody robbing Peter to pay Paul. The verdict is in -- Bitcoin is not a Ponzi scheme.