Suppose that you are attempting to buy a house, and you are bargaining with the current owner over the sale price. The house is
of value $200,000 to you and $100,000 to the current owner; so, if the price is between $100,000 and $200,000, then you would both be better off with the sale. Assume that bargaining takes place with alternating offers and that each stage of bargaining (an offer and a response) takes a full day to complete. If agreement is not reached after seven days of bargaining, then the opportunity for the sale disappears (you will have no house and the current owner has to keep the house forever). Suppose that you discount the future according to the discount factor 0.3 per day and the current owner discount the future at discount factor of 0.6 per day. The real estate agent has allowed you to decide whether you will make the first offer. Should you make the first offer or let the current owner make the first offer? Why? Suppose that you have to make the first offer, what will be your offer that is going to be acceptable to the current owner?
Since the surplus ($100000) is rapidly depleting, and though the second individual collects the whole surplus, it is already less than half of the surplus from the previous day. So, once you make the first bid, any offer above 100,000 would be fair to the second person and if he rejects the offer, he will only be able to get 100,000 the next day. You will raise the payout by 100000(1 ) this way.
