I don't know enough about Aikido to give the complete answer but the best I can come up with what I know is very similar to what Jon is saying.
I believe Ueshiba sensei had a remarkable understanding of how distance and position was key elements in any physical encounter. He taught that through the way he taught his Aikido, and his senior students were able to pick it up.
If you are a new student of aikido (or any martial art) you will most likely expose yourself and find yourself in positions where the other person can hit, throw or in other ways harm you simply by the way he/she stands in accordance to your position. In boxin you pick it up pretty fast since if you stand in the wrong place you will get hit.
In Aikido - especially the softer forms where we only 'suggest' our atemi and seldom strike - It takes longer time to understand the subtle signals but eventually your body should start to understand. In such case you will with enough experience choose to take the fall if the other person is in such a position that not falling will cause you to be hit or thrown even worse.
This 'sensibility' enables two aikido ka to 'communicate' through the movement of their bodies and just by shifting position they will take, loose, retake the center that is so essential for who has the upper hand in one of these situations. It is a comlex 'language' comprised of distance, stance (in lack of a better word), relaxation, attitude, breath, tension, focus and many other elements. A great way to train this is by training traditional japanese sword fighting where the sword serves as an 'amplifyer' of some of the core elements.
However - the downside is that you can actually become overly sensitive like Jon indicated and given enough time this can lead the teacher to rely on his students willingness to respond and he risk having his ego expanded beyond what is desirable and loose focus on the budo aspect of what he is doing. Mind you - I don't think that happend to Osensei. He was know to frequently do the 'budo dance' with people from many different styles of martial art, and some of the stories -though they can sound a little bit like myths - indicate that he was able to defend himself simply be the way he moved.
This guy however: http://www.youtube.com/watch?v=FhhWcRGRtOI
is probably the classic example of a guy who should have challenged himself on a more frequent base to test if his abilities were based on actual technique or have gradually been so refined that only a finely tuned uke would respond to the subtleties of your movement.
The thing is that if we consistently train based on the premisis that the attacker will do anything to avoid being hit, then we are in a tough situation when we are up against a boxer, MMA fighter or somebody else who dosen't mind taking a few blows to the head. We may also find ourselves in a situation where the attacker is not aware that he is in a bad postition (he may be un-trained, drunk, high or for some other reason unaware of the potential pain we could cause by shifting our position in irimi). In such a situation you will realize that unless you are actually ready to strike the attacker when it can not be avoided then you will set yourself up for a beating.
I experienced this while sparring with a cousin this summer. I tried several times to avoid it, but he tricked me into 'teaching him' and then he turned it into a sparring situation. He have a few years of kung fu below his belt and kept coming at me with small jabs and kicks. At first I performed irimi and took the center on a couple of occasions but much to my surprise he did not seem to mind my position - he just kept attacking. I then indicated a few blows to his head with very very light contact, but again - it didn't stop him. Relying on my aikido training combined with some karate training from way back, I managed to keep him away for a while and block or parry the fists and feet he threw at me. while looking for a chance to do a proper technique. However at no time did he do a committed all in attack which is what we most of the time use in aikido training.
Fact was - he was wearing me down and he was not able to (or didn't care about) the many chances I had to punch him.
I came to realize that I would have to hit him really hard or call the whole thing of. Fortunately I did the latter. For the next couple of weeks I felt really bad about the whole deal and kept questioning my aikido. I would hate to end up like the guy in the link above. Too much confidence and no sense of reality - on the other hand I do not believe in adding competition to our aikido training. I am a purist.
So Brandon: by asking what is going on you touch upon a very interesting subject. What is it that we want to train. What is the right balance between brawl, budo and buliding sensitivity in our Aikido training? What are we actually doing - or to put it in your own words: what is happening here. A sentence that I often ask myself during training. However I find looking for my grounding and emphasizing a few atemis during waza help me keep some sort of focus. And I tell my students not to fall too easily. But that is a different aspect that I'm not going to ramble on about in this post
Anyway - to quote my first aikido sensei: "Practice usually helps".