Domain squatting is a specific term, it means someone who registers in bad faith to infringe on another company's trademark. Let's be clear about that.
Perhaps the system is already optimized for capitalism and entrepreneurship. There are plenty of domains available for next to nothing. Better ones that others have already come up with will cost more. This means that only better financed companies can afford them. Thus, better names go to better companies (in general). Bad companies fail and disappear and a less valuable domain was taken in the process and is now weeded out.
Of course, with all these 'noble' goals of helping users and entrepreneurs, drawing actual concrete lines anywhere is virtually impossible. When actually trying to tackle this problem, you realize it's at an equilibrium (albeit a low level one).