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Is it ever known to happen that someone will promote themselves to a higher rank?
e.g. if there is an exceptional student, but a stubborn/arrogant teacher who doesn't want to promote them, they can just decide that they are a master and put on a different color belt.
Obviously, the (probably-former) teacher wouldn't be happy about this, but what's to stop the former-student from declaring themselves a master (other than a significant probability of getting their ass kicked in a competition)?
It happens, and it's not always completely unreasonable. In the first taekwondo school I joined, for example, the 8th dan Korean master deliberately kept the western students at no more than 2nd or 3rd dan even after they'd been chief instructor for their territory or state for years, so it'd be very hard for them to branch off and create their own school. His own sons were quickly 6th and 7th dans despite having less years of training. When the 2nd dan chief instructor in our school eventually got tired of it (after 10 or 15 years as a full-time professional taekwondo instructor, with 500-600 students in our group), and did branch off, he disappeared for a couple weeks - supposedly to Korea - and came back with a 4th dan or 5th dan - I don't remember which now. No explanation was given, no certificates displayed, no new affiliations mentioned, no changes to the curriculum. But, even in hindsight having seen taekwondo schools around the world, he was a lot better than many who've received legit 5th dans from ITF or WTF. Not saying he couldn't have created some more legitimate relationship with a bigger school, but I think he was tired of being a money funnel to someone else's organisation, and our school was stuck in what might be most easily described as a 1960s style of taekwondo - showing more of the Shotokan roots / similar to Tang Soo Do - so there were few big organisations whose "(d)evolution" we wanted to partake in. But, you'd get some guy who'd been a 2nd dan in Korea who'd agree to open a school in the west and get auto-promoted to 4th dan (a common practice to reward expansionism), with WTF backing, and it'd be hard for a far more experienced and capable local with only a 2nd dan to attract students attention as they browsed through the yellow pages for a school to visit.
He was also a pretty unfortunate sort, so when some of the instructors forked off again, we reached out to a 9th dan in WTF, but his style was very different and the group was too small to afford to fly him in for gradings. They ended up in a situation where a committee of instructors set a test program for the most senior one to grade, and just did that internally... still only to 4th dan despite decades of constant training and instructing.
The big "legit" organisations - there's so much politics. You see how long someone like Tsukamoto-sensei in Shin Kyokushin was at 2nd dan despite being a full time instructor and multiple times All Japan and World champion... it's some strange reverse-boasting thing for the school to say "even our 2nd dans are this good".
I'm not defending the practice - just explaining some of the factors.
The most common way of self-promotion is founding a "new" martial art (or governing body) and claim to be e.g. 10th dan in that martial art or governing body respectively.
Most of these guys do gather people who have no idea about martial arts around them and promote their nonsense as secret art or whatever. If they are called out and not stupid enough to believe their own delusions, they simply avoid any confrontation with valid fighters. See Frank Dux.
Another possibility is that this happens due to politics, i.e. like you suggest, some teacher (or federation) is not promoting due to personal or political reasons and at some point, people start promoting themselves. I think that this is equally invalid in most cases. There is the possibility to change affiliations and get an orderly promotion by higher ranks.
Additionally, as many high-ranked judokas in Germany hold, the belt is there to hold the gi; one should never put too much importance on rank, really. So even if there is only one unified governing body available and one has the feeling a promotion or the possibility to do higher grades were due, one should simply not think in terms of "deserving" a higher rank. This whole mindset of having one stripe more or less on one's belt being of importance is problematic in and of itself.
There is at least one notable exception, though:
Ben Askren, a horrific wrestler and prolific wrestling coach, declared himself a BJJ black belt without ever having held a rank in BJJ. He challenged anyone who dared to question this rank to take the belt from him by beating him in a match. Nobody did. That highlights the same point as the last paragraph: Does the fact that nobody would ever have awarded this grade to Ben Askren really mean anything? Not really, it is all about skill. So what he did was to ridicule the whole system of BJJ (especially based on training methodology) by pointing out that through his methodology, he got more proficient in everything that is important for a BJJ black belt than (most) BJJ black belts. Since this belt is not awarded by a higher rank, it is not worth anything formally, still. It is a statement, nothing more.
In the end, it does not really matter which rank one holds according to whom. My first Judo teacher was a 4th dan according to the official governing body and was as proud as one can be as he was awarded 5th dan by the older (Budo) organisation of all budo black belts. It was not officially acknowledged, but it was mere politics that he was withheld the official promotion and everyone knew he deserved it. But still, he would never have promoted himself. After all, there hadn't been a rank system until quite recently (~150 years) compared to the history of systemized martial arts training (probably thousands of years), after all. What matters is one's ability as a martial artist and an instructor.
In my style of karate, promotion is based not only on skill but character as well. When a student is exceptional, but it looks as if he is being held back, there might be some other hidden factor in the equation.
There are also those who cannot withstand the hard grading requirement or refuse to endure the required hours.
To answer your question, these type of students do not self promote. There are plenty of bogus and formal associations out there that accept leap froggers just to plant a flag and have presence in countries. Dans are given as rewards for joining the said associations then after a year, they jump again to another and gain a few stripes on their belt. What I personally saw was an ambitious black belt obtaining the status of Shihan and 4 dans in a span of 2 years. How? By awarding black belts to over 20 friends to prove to the association that he has students. These frauds then self perpetuate.
