This whole thing is really interesting from a posturing point-of-view.
It's almost as if Sony is throwing down the Gauntlet by having Blu-Ray. I mean, we know they've planned it for years, but many thought it wouldn't be commercially viable and they're showing that they believe that it is.
So, what's Microsoft to do?
1) Go with DVD only. It will allow the system to be substantially cheaper and in the short term it will make no difference to the actual games. I mean, they could just make a game a 2 DVD set and go up to 18GB. However, they will not particpate in the HD movie business, and Sony will certainly trumpet that exclusion. Of course, Microsoft could try and play the ONLY GAMES card and try to show that they're committed to just games. That didn't seem to work too good for Nintendo.
2) Go with HD-DVD. This will give clout to the format, but paints Microsoft in a corner that not even Toshiba or NEC have gone in. They will be 100% committed to this format. HD-DVD isn't dead, but it certainly looks like it could be relatively soon. This format would likely raise the cost of the system quite a bit, but relative to a Blu-Ray player? Also, could this delay the release of the system?
3) Go with Blu-Ray. Will put them on par with Sony for the media, but by coming out a year earlier, they would pay a huge price for going with this format. Or, they could delay the launch by a few months to a year to gain some cost savings.
It seems that Microsoft has some tough choices to make. And Sony is forcing their hand.