$199 for what is essentially a pocket computer/phone is not overpriced. That's cheap. The service contract has been standard since the iPhone debuted, as is standard with most premium phones (or you end up paying a premium price for the phone with no contract).
As for the games, they're going to be distributed and backed up through iTunes. No cartridges, discs, hard media. Sega is already on board (demoed Super Monkey Ball) and I imagine there are plenty of other developers ready to jump on board the most desirable phone since the Motorola Razor.
I'm glad I held off on the Gen 1 iPhone, because this is my next phone when it rolls out in July.