Being so dependent on 1st party software, they opted to play on their strengths. It was a good move, and sales reflect this. Can we prove in hindsight that they wouldn't have sold even more if their games had better visual fidelity? No, but it's only speculation whichever way one looks at it.
All in all, I think they chose right. Sony and MS were always about allowing outside talent to develop for offered platforms - this has the added advantage of keeping software development costs out of house, as opposed to Nintendo's case. There's a higher initial hardware development, purchase, and assembly cost, but this loss deflates quickly when you choose more or less PC parts from the mass-market manufacturers, allowing prices to go down, or profits to go up.
With the looming hardware crisis, in addition to penis-measuring contests by way of tariffs in mind though, most of the above is irrelevant and everyone is equally screwed for a long time.
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