http://en.wikipedia.org/wiki/Ponzi#Examples_of_Ponzi_schemesAn advertisement is placed promising extraordinary returns on an investment ? for example 20% for a 30 day contract. The precise mechanism for this incredible return can be attributed to anything that sounds good but is not specific: "global currency arbitrage", "futures trading", "high yield investment programs", or similar.
With no "proven track record", only a few investors are tempted, usually for smaller sums (say $5000). Sure enough, 30 days later, the investor receives $6000 ? the original capital plus the 20% return ($1000). At this point, greed starts to overcome reason: the investor will put in more money, and, as word begins to spread, other investors grab the "opportunity" to participate. More and more people invest, and see their investments return the promised (and quite large) returns.
The reality of the scheme is that the "return" to the initial investors is being paid out of the new, incoming investment money, not out of profits. There is no "global currency arbitrage", "futures trading", or "high yield investment" actually taking place. Instead, when Investor D puts in money, that money becomes available to pay out "profits" to investors A, B, and C. When investors X, Y, and Z put in money, that money is available to pay "profits" to investors A through W.
One reason that the scheme works so well is that early investors ? those who actually got paid the large returns ? quite commonly keep their money in the scheme (it does, after all, pay out much better than any alternative investment). Thus those running the scheme don't actually have to pay out very much (net) ? they simply have to send statements to investors that show how much the investors have made by keeping the money in what looks like a great place to earn a high return.
The catch is that at some point one of three things will happen: (1) the promoters will vanish, taking all the investment money (less payouts) with them; (2) the scheme will collapse of its own weight, as investment slows and the promoters start having problems paying out the promised returns (and when they start having problems, the word spreads); or (3) the scheme is exposed, because much of the "assets" that are on the accounting records of the so-called enterprise do not (cannot) really exist.