…the externalities in these problems might be remedied if animals can trade with humans or offer contingent rewards for better treatment. A farm animal might offer affection, for instance, if made a pet. If the farmer knows he can expect some benefit of this kind, he will be more likely to keep more animals in the pet sector.
The idea of animal trade is not as absurd as it may at first sound. Even if the animal does not understand contingent rewards, a disposition towards loyalty may cause animal behavior to mimic a consciously trading animal. (Animals that co-evolve with trading animals, such as dogs co-evolving with humans, may themselves develop trading characteristics, even if they do not trade consciously.) For this reason, the allocation of dogs may show greater efficiency than the allocation of less intelligent and less loyal animals. Buying a dog comes bundled with a credible (?) precommitment of good behavior from the animal, whereas buying a lizard does not. Even within the category of dog, some breeds seem able to precommit to good behavior (German shepherds?) whereas others do not (Irish setters?). On the side of the owners, the agreement may be self-enforcing. The owner of the pet may "send the animal to the glue factory" if the animal misbehaves or fails to deliver enough surplus to the owner.
Even if we buy into the basic idea of animal trading, this mechanism will not solve most of the institutional failures we observe in the real world. If we have too many animals in the farm sector, for instance, remedying this problem would require the farmer to trade with farm animals. Most farm animals find it difficult to signal that they would be docile and loving pets, if only they could be brought inside the house. And the very best sectors, such as family petdom, have only limited room for a large number of animals, even at zero price. Or if we think of reallocating animals from a worse farm sector to a better farm sector, it is not clear what the animals can offer the farmer in exchange for being sent to the better sector. The farm animals are already exploited to maximum yield. The animal might try to signal greater cooperativeness on the farm, but under many forms of factory farming animal cooperativeness is not required. The animals are kept in large halls, fed, and simply slaughtered once they reach a certain age. In short, even if animals can trade, often they have nothing to offer.
That is from my paper-in-progress on animal welfare; I must submit it very soon. Here is my previous post on that paper.