Is Second Life really just a pyramid ponzi scheme?

A venture analyst offers his take on Second Life. The short story: it ain’t pretty.

Randolph Harrison was contacted by venture capitalists who were interested in getting involved in real-money trading, which is basically about trying to make real money by trading in virtual goods. Many people are quite profitable at doing this in World of Warcraft and other MMORPGs, but it is against their Terms of Service, making it far too risky to get involved in. Besides, these venture capitalists are only interested in getting into it if there are tens of thousands of profits to be made at least, and trying to secretively trade that amount in gold on World of Warcraft is a non-starter.

So the venture capitalists set their sights on Second Life, which is one of a very small number of games that explicitly allow real-money trading. Harrison did some calculations on market exchange rates, in-game interest rates, potential arbitrage situations, investment, etc., and concluded that there could potentially be a lucrative business there. As he says, “an array of journalists, academics, and company executives have claimed that SecondLife boasts an economy complete with in-game banks, multiple currency exchanges, a floating currency exchange rate, and a burgeoning in-game commerce and business base.”

Harrison identifies the three main profit-earners in Second Life: land speculation, which is what Anshe Chung used to make her million, avatar accessories (such as clothing) that people use to customize their appearance in the game world, and the seedy underbelly, which consists of virtual “escort services” (think chat room cyber sex, but with 3D graphics) and casinos galore. Lots of businesses are flourishing in Second Life that are otherwise simply banned in real life. This is something I noticed immediately, and it immediately dampened all of my (briefly entertained) thoughts of making real money in Second Life. This is a place run by virtual mafia.

So the venture analyst started off with a (relatively puny) US$10,000 investment, because he calculated large arbitrage opportunities on in-game banking exchange rates. But the apparent gains never materialized. Player-run “banks” simply vanished when they were given a large amount of money, disappearing into the virtual ether, along with the money. “FDIC insured” is a phrase unimaginable to Second Life denizens. In Harrison’s own words:

Whole banks will disappear over night, along with your L$ balance. Private businesses will simply refuse to make good on financial contracts. And individuals, pretty much all of whose real world identities are carefully guarded anonymous secrets, sometimes even will openly default, without recourse. […] The simple fact is, if you arbitrage a bank for over 2,000% return because they don’t understand financial engineering, don’t expect to be able to collect come payment time.

Trying to get their Lindens out of the game world at a profit proved impossible. The Linden Exchanges’ purported rates of 250–300 $L/US$ only exist for small quantities. Try to conduct large transactions and suddenly the rates become a lot more unfavorable: “Interestingly, these trades tended to net returns of right around 4%, which was the prevailing dollar deposit rate.” It’s not a real currency trading market, it’s an auction for virtual money, and all of the advantageous exchange rates are only available in small transaction volumes, almost like a scam to make one think their virtual money is worth a lot more than it actually is.

Harrison’s conclusion is that Second Life is a giant ponzi pyramid scheme. There is no profit to be made in it for the average person. It’s only the people at the top of the game world, the Anshe Chungs, those who control the large exchanges, who are able to profit from it. Everyone else coming in with a gleam of profit in their eye is really just feeding their money into the people at the top. Harrison ends with a grim, yet surprisingly accurate, summary: “There are but a very tiny handful that profit off of the Second Life economy. A handful of casino owners, large scale virtual land flippers, and brothel owners are responsible for nearly all of the real money extracted from the game. And they continue to attract new recruits to the bottom of the pyramid.”

I must admit, I was like Randolph Harrison two months ago. Yes, I lacked the venture capital, but I was attracted by the same lure: tales of people making lots of real money in the virtual realm. When I actually arrived and started to try to figure out how I could get in on any of it, however, I came to the same sort of realization that Harrison did. Which is why I use the game now as little more than a virtual physics experiment sandbox. Like any ponzi scheme, if you don’t get in on the top, you’re just a sucker hemorrhaging money, and I didn’t get in on the top.

6 Responses to “Is Second Life really just a pyramid ponzi scheme?”

  1. Randolph Says:

    Thanks for this editorial. I think it adds to the debate.

    One minor correction: my clients who attempted Second Life investing strategies were a group of self styled hedge fund guys (the manager is a friend of mine), not venture capitalists. The VCs were initially interested in a broader cross-game RMT venture, which turned out to be a non-starter for the reasons you cite. The VCs were looking at what Gaming Open Market was trying to do, and what IGE is already involved in.

    Randolph

  2. Vernes Says:

    I’ve been writing SL scripts now for a couple of month which managed to create a small income from what I call ‘a hobby’.
    Money put into the game? zero.
    I’m curious when this ‘piramid’ sceme kicks in and steals my money.

    As I see it, the people who say it’s a piramid game are under the impression that no effort is needed to create a profit.
    You buy land… and try to sell it for more? I’m sorry, but land needs to raise in value. This requiers work.

    Banks? SL banks? That’s asking for trouble. If you see a shady guy standing in an alley holding a sign “Leave your wallet here for savety”, you don’t even walk into the alley. People who leave money in SL banks are the ones who ignore common sense.

  3. Maxi Says:

    I agree with vernes. I have made a very profitable little business doing what I love most – building beautiful things and making them move. I calculated my earnings ove rthe past 8 months, and although I earn only 350 USD or so per month (after taxes and land rental, advertising costs etc) thats exactly half what I was earning at a real life job in the states. I think thats not bad at all. In fact, once I have made the items, I only need to check in on them once a week as they sell themselves automatically to customers. Thats the joy of SL business.

    I dont understand this idea that SL is nothing but a pyramid scheme since I myself have put no money at all into the game and made a nice pocketful just having fun!
    As in real life, if you have a smidge of talent and put in a lot of work to create something that people want, you will get rewarded. Although in SL, it takes time for word of mouth to spread. There was a large delay between when I first started making things and when my profits became anything substantial… although, the land I rented was so cheap that one sale of 1 item garaunteed rent money for the week.

    There is no such thing as “free money” in any universe. Those who fall prey to these ideas are bound to get burned – caught up in pyramid schemes etc.

    Forgive me since I feel like I just paraphrased everything Vernes said :) But it has been my experience too.

    ET
    Second life business owner since july 2006

  4. John Says:

    SL is far from a ponzi-scheme. You want a ponzi-scheme? Look at Wall Street.

    SL might be ugly sometimes, but so are people. The thing about SL that’s enduring is that if you know how to script and know how to create 3d things and know how to market your business in SL then you just might make some money. You actually have to create things. Reselling can be useful, but in RL it’s used excessively and if I was sober I’d say it was a ponzi-scheme or something similar.

  5. John Says:

    Further, with people making tens of millions per year while many americans are working their butts off for just 30,000 a year then I have to argue that the fat horse isn’t really worth tens of millions but likes to give the impression that they’re. Maybe when we die justice will be done and we can say they were a ponzi-scheme to rape people of money and fill their bank accounts.

  6. John Says:

    You better run and be paranoid. Some people wisen up and won’t swallow your fakeness.