Book IV, Chapter II

Isolated Exchange

A peasant, whom we shall call A, requires a horse. His individual circumstances are such that he attaches the same value to the possession of the horse as he does to the possession of £30. A neighbour, whom we shall call B, has a horse for sale. If B's circumstances also are such that he considers the possession of the horse worth as much as, or worth more than £30, there can, as we saw, be no exchange between them. Suppose, however, that B values his horse at considerably less, say at £10. What will happen?

First, it is certain that there will be an exchange; in the assumed circumstances each of the contracting parties can make a considerable profit by the exchange. If, for instance, the horse changes hands at £20, A, who considers it worth £30, makes a profit of £10, and B, who gets £20 for an article worth only £10 to him, gets the same amount of profit. They will, therefore, in any case, according to the proposition "rather a small gain than no exchange," agree on making an exchange at a price advantageous to both of them. The question now is: How high will this price go? As to this it may be said definitely: The price must at all events be less than £30, otherwise A would have no economical advantage, and would have no motive for going on with the exchange. And it must at all events be higher than £10, or there would be no use in the exchange to B, and perhaps even loss. But the particular point between £10 and £30 at which the price will be fixed cannot be determined beforehand with certainty. Any price between the two is, economically, possible; a price of £10:1s. or a price of £29:19s. Here, then, is room for any amount of " higgling." According as in the conduct of the transaction the buyer or the seller shows the greater dexterity, cunning, obstinacy, power of persuasion, or such-like, will the price be forced either to its lower or to its upper limit. If both parties have equal skill in bargaining, the price will be fixed approximately midway; that is to say, about £20.

There is no difficulty in putting this briefly in the form of a general proposition. In isolated exchange—exchange between one buyer and one seller—the price is determined somewhere between the subjective valuation of the commodity by the buyer as upper limit, and the subjective valuation by the seller as lower limit.