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Sometimes referred to as the walk away point, a reservation price is a concept that actually is approached from two different perspectives. One approach has to do with the price that a buyer is willing to pay in exchange for a given good or service. The second approach has to do with the price that a seller is willing to accept in exchange for a product. Both approaches often form the basis for negotiation on the final sale price, a process that is common in many countries around the world for everything from real estate to fresh food.
When the reservation price is focused on the desires of the buyer, it reflects the maximum amount that the buyer is willing to pay in order to acquire the product. There are several factors that influence this price, such as the current financial circumstances of the buyer. This maximum price may also be determined based on the availability of similar products, or the buyer’s personal assessment of how much satisfaction he or she will ultimately receive from the purchase.
The reservation price can also be approached from the perspective of the seller. When this is the case, the price is often determined based on the amount of resources that the seller committed to the creation and manufacturing of the product. Ideally, the seller will want to make a certain level of profit in order to cover all expenses and have some extra earnings that make the entire procedure worth the time and effort. This minimum acceptable price is sometimes not negotiable, although some merchants do allow for some haggling with prospective buyers, as long as the final sale price is enough to cover expenses and perhaps a little more.
Many auctions make use of a reservation price. Essentially, the price establishes the starting point at which bids will be accepted from potential buyers. Any buyer who is not willing to pay this minimum price does not bid on the item. Buyers who are still interested in the auction will continue to bid, until each one reaches his or her maximum bid, or reservation price. The bidder who ultimately wins does not necessarily have to pay the maximum price that he or she has personally set for the auction; all that is necessary is to surpass the reservation prices observed by all the other bidders.
The broad concept of the reservation price is also found in other applications. For example, a worker who is seeking employment has some idea of the least amount of salary or wages that must be generated in order to make the job worth the worker’s time. This would be known as a reservation wage. By contrast, a savvy shopper always wants to save money on purchases, thus stretching disposable income to provide more satisfaction. Thus, the shopper will set a maximum amount that he or she is willing to pay for a given product, thus establishing a reservation or walk away price.