Kinect works by projecting infared light throughout the room it's situated in. Under normal circumstances, it's invisible, but switch to night vision mode and you can actually see the dots floating around your living room.
Kiwi reader Cullen sends us this footage that, while a little tough to make out at first (he's having to film through an external night vision device, since his camera can't do it on its own), enters the realm of fantasy land around 1:00 in.
You can actually see the infared dots Kinect uses to detect movement, and even more interestingly, can see the very definite limits of the device's range.
If you've picked up Kinect, or even just see one in a store and someone asks "how the hell does it work", well, now you really know.