A Biography of Charles Ponzi and his Scheme
The Man Behind Bernard L. Madoff's 'Ponzi Scheme'
Jan 9, 2009
Charles Ponzi was born Carlo Ponzi, in Parma, Italy on March 3, 1882. It is difficult to determine much about Ponzi's early life due to his habit of fabricating or altering facts. He attended the University of Rome La Sapienza.
Ponzi's Arrival in the United States
In November 1903, Ponzi arrived in Boston, MA aboard the S.S Vancouver. He learned English quite quickly and did numerous odd jobs along the East Coast including a job as a dishwasher where he slept on the restaurant's floor. He was promoted to a position as a waiter, but was fired for theft and for shortchanging some of his customers.
In 1907, Ponzi moved to Montreal to work as an assistant teller in the newly formed Bank Zarossi, which was set up to service the huge influx of Italian migrants arriving in the city. It paid 6% interest, which was nearly twice the going rate at the time, and as a result the bank was growing rapidly.
The bank went bankrupt due to bad bank loans and the owner fled. Ponzi, now penniless forged a check for just over $420. When confronted by police because of his large expenditure after the check was cashed, he admitted he was guilty and spent three years in a prison in Quebec.
Having been released in 1911, Ponzi returned to the United States, but got involved in a scheme smuggling Italian immigrants into the US and spent two more years in prison, this time in Atlanta. On his release he met Rose Gnecco, to whom he proposed, and they got married in 1918.
The Ponzi Scheme
Whilst working for a number of companies in the months after being released, Ponzi received an envelope from a Spanish company which contained an International Reply Coupon (IRC) which Ponzi had never seen before. He found a weakness in the coupon system, one which could potentially make him money.
An International Reply Coupon is a coupon that can be exchanged for a number of postage stamps which represent the minimum postage for a priority air mail letter to another country. Ponzi realized that he could take advantage of the different postage costs in different countries to make him a profit. He could buy IRCs cheaply in one country and exchange them for more expensive stamps in another.
Ponzi would send money to agents abroad who would buy IRCs. They would then send the IRCs back to the United States where Ponzi would exchange the coupon for stamps worth more than he had spent on the coupon originally.
He would then sell the stamps. The reported net profit of such a transaction could be more than 400%. The idea was a form of arbitrage which is not actually illegal.
Ponzi persuaded investors to back the scheme, promising them a 50% return in 45 days, or even a 100% return in 90 days. He founded a company, the Securities Exchange Company, to run the scheme. He managed to repay his initial investors and word soon spread. Ponzi charged a higher rate as more investors arrived and by March 1920 he had personally made $328,000 in 2008 terms and by May 1920, he had made over $4 million in today's money.
A very simple economic calculation could have seen that Ponzi was operating at a huge loss, but as long as money kept flowing in, he could pay the other investors to whom he owed money. This is very similiar to Bernard L. Madoff's scheme which was uncovered in late 2008.
He lived very luxuriously, making $250,000 a day and bought a mansion in Lexington, Massachusetts.
Demise of Charles Ponzi
Financial analyst Clarence Barron was asked by The Boston Post to examine Ponzi's company. Having done so, he realised that for Ponzi to be making as much as he did, 160,000,000 IRCs would have to be in circulation, but at the time there were only about 27,000 of them. This story, combined with announcements by the United States Post Office (USPS) that IRCs were not being bought in bulk anywhere caused a panic and rush withdrawal from Ponzi's company.
On August 12, 1920, Ponzi was arrested with liabilities estimated a $7 million. In November 1920, he pleaded guilty to mail fraud.
He was released in 1934 and lived the rest of his life in poverty, dying in Rio de Janeiro in 1949.
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