I do not work for Microsoft, but I can see their side:
* Cannot install games to the HDD
You could potentially have code on a modified xbox 360 that allows said installed game to be played without the disc, hurting game publishers. Microsoft is one such publisher.
* Cannot use Windows Media Centre extender
Requires a network connection. If Microsoft bans xboxes from live by telling it to turn off it's networking capabilities (shrug)
* Cannot access netflix rentals
Requires xbox live gold
* Cannot download game updates and extra content that are used in offline play
Requires xbox live connection (silver or gold)
and, the one you forgot:
* Cannot transfer saved games to another 360
Technically speaking, on a modded console you could cheat. For example you could give yourself extra ammo, more lives, or a ton of gold. Allowing you to then transfer this off, and use it on the service could give you an unfair advantage.
I don't see where Microsoft did anything wrong. You broke the agreement, you get restricted access.