The funny thing is, despite having, what, a 2004/2005 GPU in the Xbox now, the games manage to get better. No, it's not PC-quality, but my point is that they don't NEED a $400, cutting-edge GPU in a console to make good-looking games. Yes, price is the issue here. If they start building consoles with high-end PC parts, then the consoles are going to cost $800+ and drive people away. The points of PC gaming over console is REALLY that a console is more affordable than a gaming PC.
I personally still don't see myself ever going fully to PC gaming beyond WoW and a few other titles I have on PC because of the longevity of my gaming on Xbox LIVE and the lack of ANYTHING on the level of Halo, Gears of War, or Forza on the PC. If they EVER get around to releasing new Quake and Unreal titles on PC, I'd probably get THEM on PC, as their online communities never really take off on console (except for the first Unreal Championship back in 2002/2003, which was one of the first Xbox LIVE FPS titles and was GREAT fun).
I've questioned two route for console hardware for a little while now.
1. They could make the GPU in the console accessible and swappable. this would help upgrade graphics in consoles to a greater level, while hopefully preventing any potential "holding back" of PC graphics to cater to consoles. You could just do like PC games now, where you have a graphics setting. Sell the console with a baseline GPU for $250-300, or sell an empty one for maybe $150-200 and let you pick your GPU. The downside here would be if kids and parents were confused by the two-console model (buying the GPU-less machine thinking it's just cheap), and the potential confusion over "what's a GPU?" from those same people. I guess Best Buy could price gouge a GPU installation that takes 30 seconds and charge $150 for it, they love that stuff (remember when they had a $130 console installation service?).
2. They could replace consoles with HDDs. Sell an Xbox OS on a hard drive, let people slap it into a desktop PC (maybe have 2.5" versions as well, perhaps USB-capable drives for laptops?), and use their current PC hardware to run games. The OBVIOUS downside here being that you'd have to get Xbox games onto a PC-compliant disc format (if they're not already), or people would have to get new disc drives (if you don't go to all-digital sales). There might also have to be a MASSIVE software overhaul to get the OS compatible with PC hardware over console hardware (which I don't think is 100% the same). I'd love this route, but I think it'd be a much slower one.
I was also just thinking of another...
3. Just let us link our Xbox LIVE accounts to Steam and do Xbox LIVE through it. Make separate lobbies/servers (or even launchers, if you want) for using a controller vs. a mouse-keyboard setup, so they're not getting mixed together and controller-using players aren't getting DESTROYED. Like I said, the major roadblock from having me go to PC gaming is that I do not want to give up all of my friends and achievements (they're just visuals, but still sentimentally meaningful, I guess) of the past 9+ years.