The market would bring itself into an equilibrium without external limitations; this is the idea of free market, right?
Satoshi did no have much faith in free market in my opinion, defining block size and believing only one Bitcoin repository should be mantained is centralized world view instead. Or maybe Bitcoin was just not ready for this because Bitcoin was much smaller project at the Satoshi time.
And when the block size was changed from 32 MB to 1 MB, there was no much analyse why 1MB is better than other block sizes, it was round number, allowing protection if someone decided to submit enormous amount of free transactions and way above the demand at these times to dont restrict Bitcoin usage. It would be ridicious if 25 KB was used instead to make the fee war happen (paralell to today 1 MB, since much more people using Bitcoin since 2010). 1 MB was re-defined at certain time, was fine for many years, but things changing and no doubt this variable get re-defined again, hopefully removed because your right, free market can handle block sizes as you nicely reasoned why yourselves.
