Is Second Life a Ponzi - No and Yes
In the early 1920's, the Yellow Kid and his associates devised a clever racing bookmaker fraud. The Yellow Kid set up, what today would be called, an "offshore" horse racing bookmaker. They solicited money through the mail, an interesting exception to most of the Kid's criminal schemes, but every winning bet was paid off. (Otherwise the scheme would have collapsed in a matter of weeks, and involved the Feds with the mail fraud charge. Always to be avoided.)
Nonetheless, the venture was extremely profitable for the criminals. How could this be if every winner was paid out?
At that time, the race results were posted appeared in the newspaper the next day. But the winning odds were not posted. It became a simple thing for the Yellow Kid to skim off the from the winning results a portion for his syndicate's "profits". For example, if a winning bet return $3, the Yellow Kid would send $2. There was of course no actual bets laid, the losing bets were kept and the winning bets returned less than a fair return.
It would take some bookmaking skill to make this fraud run, as the race odds are determined by the betting population at the track and the money coming in by mail would not likely reflect those odds. For example, the track might post horse 1 in race 3 as 3-1, but the mail betting might have him running at 1-1, half the money coming in by mail being on horse 1. If horse 1 does win, then the Yellow Kid would only enough money to pay off, at a maximum odds of 2-1, and that with no profit. (The easier way to run this fraud is to skim before, lay all the bets off at the race track, and return a diminished pay-off. Call the difference "advanced breakage")
This scheme was one of the few that didn't rely upon the Yellow Kid's understanding of the something for nothing impulse, that he cultivated in marks.
In a very interesting article about Second Life, Randall Harrison in Capitalism 2.0: SecondLife: Revolutionary Virtual Market or Ponzi Scheme? discovers a similar fraud in the Second Life exchange system, the story about Second Life being a Ponzi was also picked up by ValleyWag. Second Life is essentially a online version of the Sim's Game, with a twist. In a Sim game, you try to expand your virtual budget by actions taken in the game; in Second Life, you can expand your budget by purchasing Linden Dollars for play in the game with US Dollars. This represents a happy medium between tedious game play and using the cheat codes in a Sim game. If you want to "advance" faster in Second Life, you purchase Linden dollars.
Naturally, any system of exchange presents arbitrage opportunities. Can you purchase Y Linden dollars for X US dollars, engage in some commercial transactions in Second Life, emerge with more Linden Dollars and cash them out into more US dollars than you started with?
Well, as Randall Harrison discovered, in Second Life, you don't know what the rate of return is, viz. the value of an arbitrage bet, in advance. The posted rate of exchange between Linden Dollars and US Dollars may be 280-1, for example, but if you try to cash out a large amount of Linden Dollars, the rate zooms up to something like 800-1. Talk about a harsh currency control system!
But the scheme is not a Ponzi, Pyramid, or a HYIP. Which doesn't make the currency exchange manipulation any less of a scam.
Randall Harrison's article had types of responses or comments that appeared on his blog. One category of response was: you don't know anything because I actually make money selling goods to other Second Life participants. The other category of response was: making money off of a currency exchange is fundamentally different from selling goods to other Second Life participants, and is plain wrong.
Harrison did a good job of pointing out that the first response is true, but irrelevant, and the second response is just plain false. However, there is a better observation: the second type of response is false, which makes the first type of response now very relevant. How come those selling goods, which include Linden dollars, cannot succeed above a certain size?
