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From the Offical Vista Blog


Will the playback quality be reduced on some video output types?


Image quality constraints are only active when required by the policy associated with the content being played, and then only apply to that specific content -- not to any other content on the user's desktop. As a practical matter, image constraint will typically result in content being played at no worse than standard definition television resolution. In the case of HD optical media formats such as HD-DVD and Blu-Ray, the constraint requirement is 520K pixels per frame (i.e., roughly 960x540), which is still higher than the native resolution of content distributed in the DVD-Video format. We feel that this is still yields a great user experience, even when using a high definition screen.
 

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Just remember that Vista has the same restrictions that are placed on a consumer electronic device. So if the standard requires it to be resolution reduced when played through an unprotected digital output the software application and hardware must comply if they want to play back the content as does any consumer electronic device.
 
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