Hmm, magic axe? Oh! I wasn't aware of that, and have never tested it. I wonder why it doesn't work though...
[edit] It seems he's not evaluating anything. I just gave him nothing and he called it a goodly gift.
Oof, I just tried this in the GoG version of the game, and he doesn't check what you have in your inventory, he just says "that is indeed a goodly gift", even if you are carrying nothing! It depends which conversation path you take. So unfortunately this is a bug in the original conversation code. I might be able to patch it but it's low priority.