HOMEWORK EXERCISE “A Ponzi scheme is a fraud in which invested money is pocketed
ID: 1114521 • Letter: H
Question
HOMEWORK EXERCISE“A Ponzi scheme is a fraud in which invested money is pocketed by the schemer and investors who wish to redeem their money are actually paid out of proceeds from new investors. As long as new investors are expanding at a healthy rate, the schemer is able to keep the fraud going. Once investments begin to contract, as trough a run on the company, the house of cards quickly collapses. That is what happened with the Madoff scam”. Stephen Greenspan, “Why we keep falling for financial scams”.
A) Explain why the Madoff scam could exist for so long.
B) Explain why manias and financial frauds will continue to occur and why they are difficult to extinguish.
C) Discuss the extent to which such behaviors account for past, present and future financial crises. HOMEWORK EXERCISE
“A Ponzi scheme is a fraud in which invested money is pocketed by the schemer and investors who wish to redeem their money are actually paid out of proceeds from new investors. As long as new investors are expanding at a healthy rate, the schemer is able to keep the fraud going. Once investments begin to contract, as trough a run on the company, the house of cards quickly collapses. That is what happened with the Madoff scam”. Stephen Greenspan, “Why we keep falling for financial scams”.
A) Explain why the Madoff scam could exist for so long.
B) Explain why manias and financial frauds will continue to occur and why they are difficult to extinguish.
C) Discuss the extent to which such behaviors account for past, present and future financial crises. A) Explain why the Madoff scam could exist for so long.
B) Explain why manias and financial frauds will continue to occur and why they are difficult to extinguish.
C) Discuss the extent to which such behaviors account for past, present and future financial crises.
Explanation / Answer
A) Explain why the Madoff scam could exist for so long.
Answer:
-- People were contended with the return on their “investments” returns and the vast growth of new investors provided money for the previous ones.
-- The exclusivity of such investment opportunity and the low-key operation made it tough to be brought to light.
-- Madoff betrayed his extended family and friends when became richer
-- The fake statements and NASDAQ involvement as co-founder and a chairman made the elaborate scheme seem legit
-- Small stable returns versus large extravagant
-- feed hedge funds, investment firms did not look into Madoff as required by law (due diligence)
B) Explain why manias and financial frauds will continue to occur and why they are difficult to extinguish.
Answer:
-- People are categorised as too trusting and gullible.
--Peers profiting and social feedback from friends
-- Herd mentality
--Affinity nature of fraud
--Receiving quick wealth
C) Discuss the extent to which such behaviors account for past, present and future financial crises?
Answer:
-- Netherlands tulips market crashed.
--Spread of the fraudulent information creating a situation for mal-investment in an attempt for other businesses to obtain same or a better net profit in comparison to the firms committing fraud.
-- Money is not generated, rather lost due to lack of new investment opportunities, unemployment and lost confidence in investment
-- The deposits as investments, by banks are fraudulently used that lead to crash of 1930s, having the glass-steagal act drafted and passed for the separate two entities - investment and commercial banks
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