That line clearly refers to a man ejaculating (or being expected to). The "one-eyed midget" is clearly a penis. The whole verse (and much of the song) is about sexual scenarios. I always wondered why Bob put all those male sexual images in "Ballad of a Thin Man", when he did not in any other songs (as far as I know). It's quite a strange song, filled with alienation, anger, and hatred.

Baez detested most of the material on "Highway 61 Revisited", precisely because of the general mood of extreme alienation and anger that it expressed. She and Bob were not communicating well at all at that time (having broken off their relationship).