I personally agree that some sort of deterrent, causing players to avoid death is a good thing. The specific form of the deterrent is (I think) ultimately the least important point.

I think that the balance of risk / reward is what is important. If the deterrent is essentially negligible, then character death becomes cheapened, and a large portion of the excitement / suspense is missing from the game.

If the deterrent is too harsh, then tempers rise, and people begin to play overly cautiously, thus also reducing enjoyment in the game.

Other factors to consider are deaths that are not under the players control:
a) Severe network lag or disconnect, or the infamous R0 syndrome
b) Party members making a mistake leading to deaths
c) Players deliberately griefing, in order to cause player deaths

Ultimately, I believe that the feel of the system should be (1) deaths not caused by player carelessness have negligible penalties, and (2) death cause by a player's mistake have enough of a penalty to cause a degree of anguish, but instill the resolve to learn and try better in the future.

Unfortunately, I know of no MMO that has ever been able to balance this. Just to take the loss of connection issue, if the penalty for dying due to network loss is reduced, then some number of players will exploit this by deliberately severing their network connection.

So, I'm stymied for truly constructive feedback, but maybe someone else will miraculously come up with a solution. Perhaps gear damage is the best compromise, after all.