After picking the quest for the Lost Eye your first objective is to meet someone at a hut, once there you are offered 2 choices,

1 Give 20 Crystal

2 I'll come back later.

Choose #2, you will get the following reply: I will be at the dragon statue if you want to pay.

Now go back to the dragon statue, once there Kithra ask again and offers the same 2 choices

Did you bring the crystal or to say I'll come back later.

Choose #2 again

It will bring up a simple game quest popup where Kithra say's she will be waiting for you here, press ok....

At that point Arneson must have made some sparkle, roll over and died in boredome because you immediatly get a second popup:

With the death of Arneson the rest of the soldiers flee ...etc...

You have now obtained the Dragon Eye gem 

Now if only I knew what to do with that gem 

Save game if wanted:

https://dl.dropbox.com/u/102606722/aaaa.EleSav