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Abstract. Friedman (1962) argued that allowing schools to compete based upon their reputation would lead to better school performance. This paper explores this issue by building a tractable model in which rational individuals go to school and accumulate skill valued in a perfectly com-petitive labor market. To this it adds one ingredient: school reputation in the spirit of Holmstrom (1982). The result is that competition based on reputation indeed improves performance when schools cannot select students on the basis of their ability. If schools are allowed to select on ability, then competition based on reputation leads to stratification and inequality, reducing student effort and in some cases lowering the accumulation of skill. We show that this simple model can explain some puzzling features of the evidence on school choice, including why competition by itself does not improve the quality of schools for the least advantaged>students. The results imply that na-tional standardized tests can play a key role in enhancing school quality, particularly for the most disadvantaged students