The Albanian Pyramid Schemes
The transition from a state run to a free economy can be a brutal affair as events in Albania in the 1990s amply demonstrated. In 1992 the Democratic Party of Albania led by Sali Berisha won the first democratic elections following the fall of the Communist regime. As a more free-market based Albanian economy began to develop, a number of superficially attractive fund companies began to spring up, offering members of the public significant returns.
These funds were pyramid schemes rather than Ponzi schemes, the fundamental difference being that a Ponzi scheme pays an investor interest out of their own or others’ capital and if structured cleverly can last some time before it runs out of money whereas a pyramid investment scheme is where new investors transfer their funds to the founders or earlier members and can only get a return by recruiting new members in turn. A pyramid scheme is entirely predicated on exponential growth and because of this inherent design flaw can only result in the later subscribers, who are unable to recruit new members, losing their shirt.
Taking advantage of the newly won democratic freedoms, a relatively financially illiterate populace and minimal regulatory supervision, these fund companies offered significant returns which seemed (and were) too good to be true in a country where alternative forms of investment opportunities were limited. The first scheme was that of Hajdin Sedjise, who later fled to Switzerland later with several millions of dollars. This was then followed by the Sudja run by a former shoe factory worker, Maksude Kadena, which offered interest returns of 100%. In all there were some 23 funds trading at the height of boom.
So phenomenal was the success of the funds in attracting investors that many Albanians sold their houses, personal possessions, livestock and other assets to get a piece of the action. At their height the Albanian pyramid schemes had two million of an overall population of 3.5 million investing in them.
The sheer size of the schemes and the ready availability of new investors masked the fundamental design flaw of a pyramid scheme for longer than might otherwise have been the case. As long as there were still people ready to join the bottom of the pyramid, the economic model would continue to provide returns to those higher up the pyramid. Of course, those at the very top of the chain would do very nicely, thank you. Despite external criticisms of what was going on, the Albanian government refused to condemn the schemes until too late.
Between 8th and 17th January 1997, the inevitable happened. The schemes collapsed with debts of around $1.5 billion at a time when the average monthly income was $80. Naturally, there were lots of extremely peeved Albanians who had lost everything.
What happened next was extraordinary. The population demanded that the government compensate them and the country descended into chaos and anarchy. The government lost control of the south of the country and order was only restored in April 1997 by 7,000 United Nations’ troops. By then, 2,000 citizens had lost their lives and Berisha his job. Lawsuits were filed against some of the fraudsters, many of whom had skipped the country and who were sentenced in absentia.
In terms of numbers of people involved, this was the world’s biggest financial scandal.