What Limits Prices?

Imagine that you live out in the country with a single next door neighbor and no-one else within miles. The next door teenager offers to shovel your snow, mow your lawn and tend your garden for a total of $200 per month over the next year. Do you accept?

It depends on your relative subjective valuations of the services provided and the money required to pay for them. Any possible alternatives and their opportunity costs also come into play. A price cannot exceed what a buyer is willing and able to pay, taking all of his known alternative possibilities into account.

You decline the offer and he then cuts his price to $150 per month, which you accept.

Consider the following five scenarios, all of which could plausibly cause you to accept the $200 price next year.

I. Your lawyer wife brings home a $25,000 Christmas bonus.

II. Your Treasury Warehouse Supervisor wife brings home $25,000 in un-issued Federal Reserve Notes which fell off the back of a forklift.

III. Your 1000 shares of Microsoft double from $25 to $50 in a year.

IV. Microsoft stock is flat at $25, but Bill Gates gives you 1000 of his shares for Christmas.

V. Same as IV. above, but the shares belong to the company and come out of Bill Gates' office safe.

Share this