Sorry but if you're on live, you get upgraded.
Its a full system software update.
(Remember, its not just the avatars and Vista-like UI, but a whole rewrite of the dashboard.)
Yes, the blades remain, but in a minimalist mode; they serve as the Guide menu now (its in the final third of the video). They actually look nice and its a really big improvement over the current Guide.
As the video makes clear, the new GUI is smooth and snappy and optimized for widescreen instead of 4x3...
The avatars are *optional*, folks; you can still do gamerpics instead.
(And the biggest nay-sayers will be the first to rush out their fancy alter-egos. You know who you are!)
Existing themes will work; it looks fairly nice, too.
Microsoft Shows Off Xbox Experience Mockups GamePlasma.com :: Gaming to the Next Level! :: GamePlasma Live BETA
Two seriously under-reported aspects of the 360 V2.0 update are the party-based file-sharing (photo-viewing for sure, music almost certain, video probably) and the new Live Primetime "channel" for schedule-based online gaming. One vs one-hundred has been mentioned but it hasn't been emphasized enough; Primetime is essentially a channel of game show MMORGs. Think you can do better than the stiffs on a given game show? Well, Primetime may give you a chance to live up to the boast...
Hopefully, not that they will be replacing the existing media player and photoviewer, we'll get significant improvements for both. The photo viewer for certain; it can hardly be much worse. But it would be nice to get album art for the media player and the ability to import DRM-free or even protected WMA music onto the hard drive. The new karaoke game, LIPS, allows it so there is some hope there...
Of course, this is all 4-5 months away and they are working on it as we speak so a few things may change, but overall its a nice update and a fair exchange for missing the spring dashboard update.