Ponzi would have been proud
by Robert Fulford

(The National Post, 27 December 2008)

It was the year of the unwise, the swindled, the innocent and the terminally stupid. But the financial catastrophe of 2008 brought a peculiar kind of pain and embarrassment to one self-designated expert, a University of Colorado developmental psychologist named Stephen Greenspan.

He's written an authoritative, 224-page book, Annals of Gullibility: Why We Get Duped and How to Avoid It. Unfortunately, he can't take much authorial pleasure from the publishing of his work this month. Something truly mortifying happened between the checking of the page proofs and the appearance of the book: Greenspan discovered that he had allowed Bernard Madoff, the now infamous Wall Street broker, to steal a good-sized chunk of Greenspan's retirement savings. Moreover, Madoff did it with a Ponzi scheme, precisely the sort of criminality that Greenspan tries to warn us against.

Greenspan's publishers advertise his book as a psychologist's groundbreaking look at gullibility in everything from politics and religion to personal finance and private relationships. If Annals of Gullibility ever goes to a second edition, it will also have to include a preface describing the author's firsthand experience.

How did it happen? Greenspan has issued his own explanation, getting his version out before anyone else beats him to it. On Tuesday, he published on skeptic.com an article, Fooled by Ponzi (and Madoff ): How Bernard Madoff Made Off with My Money. It demonstrates that even an ancient and notorious scam can be revived by a con man who knows how to bring it up to date.

In 1920, Charles Ponzi stole money from his investors in Boston while convincing them they were growing rich. He promised to pay wonderfully high interest and in fact did pay it for a while, thereby attracting more customers. But the interest paid to old investors came from the deposits of new investors, there being no other source of funds. The system was bound to crash when investors grew suspicious and asked for their money.

Few people would be fooled by Ponzi today. His promise of sensationally high interest would identify him as a crook. Bernard Madoff knew that. He promised nothing more than steady growth -- as Greenspan says, "high enough to be attractive but not so high as to arouse suspicion." He must have also sensed that any fund controlling truly gigantic sums (US$50-billion is the figure mentioned in his case) might be suspect on that ground alone. So he created funds under many different names.

Investors often had no idea they were dealing with Madoff--Greenspan can't remember hearing of him. Big investors, including some major charities, knew about Madoff but respected his record as a hedge-fund manager, his former presidency of NASDAQ and his many philanthropies.

The scheme fell apart only because many clients, their other enterprises hit by the general financial crisis, needed immediate cash. When Madoff failed to deliver, he was exposed.

Greenspan's research shows that schemes depending upon gullibility need the help of what he calls a "social feedback loop," what others call "word of mouth." If many investors make profits from a fund and tell others, the investment seems safe and desirable.

That's what happened to Greenspan. Visiting his sister in Florida, he met a close friend of hers who was recruiting customers for the Rye Prime Bond Fund. Greenspan learned it was part of the Tremont family of funds, itself a subsidiary of Mass Mutual Life, an insurance giant. He liked and trusted this agent. Apparently, the agent had put all of his own assets in the fund; he said he had even refinanced his house in order to invest more in Rye Prime.

Greenspan's sister and brother-in-law were investors, along with many of their friends. They happily reported they had seen their money grow over several years. Their experience "convinced me that I would be foolish not to take advantage of this opportunity." His belief was so firm that when a skeptical and financially knowledgeable friend back in Colorado warned him against the investment, Greenspan put it down to knee-jerk cynicism. He was truly suckered.

His decision, he says now, "reflected both my profound ignorance of finance, and my somewhat lazy unwillingness to remedy that ignorance."

Greenspan mentions that he's not related to Alan Greenspan, the former genius who ran U. S. fiscal policy for years. That Greenspan will go down in history as The Man Who Didn't See It Coming. Stephen, on the other hand, will be known as The Gullibility Expert Who Forgot to Read His Own Book.

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