The issue comes down to Google hosts a users video for free, with the expecation that they can serve advertisements to people who watch said video. By using this service, it strips google of that right while still using its resources. Google has every right to block services it doesnt like and you have every right not to use youtube.
This is very similar to the craigslist/padmapper issue in some ways.
500k/month in advertising? That's a little high...
I feel decently confident in my estimate due to my knowledge of the space and my own, current, experience in this space but feel free to retort if you have additional data.
I'd expect that he doesn't have a particular niche beyond music or music video, and in my experience as you gain more traffic the CPM price that you can command actually goes down and not up.
Facebook only has a CPM of 30 cents to 50 cents.
500k a month in 30m pageviews implies he makes almost $17 per 1000 pageviews. I currently see two ads on his homepage, both large but for the same advertiser (an untargeted credit-card advert). I find it staggering people are selling ad-space at such a price unless it's highly targeted to a specific niche.
Also, multiple ads per page = multiple ad impressions.
So while he only has 1m uniques a day, that could be 1.5 visits per user (a unique could covert 10 videos and would only be counted once) so guesstimate 1.5 visits per unique
So now we are at 1.5m impressions a day.
Now, lets count in we assume 3-5 pageviews per visit. So, on the low end thats 4.5m impressions a day.
He has multiple ad units, you counted two. So now we are at 9m impressions per day / 270m per month
Makes things much more sane. Also, I went on the low end of numbers. Its more likely he does well over those numbers.
Google has the right to refuse to talk to you, however if they operate in a broadcast manner, i.e serving anyone who comes, they are not entitled to use law's power to block people from doing what they don't like. They could make a filter on the site that would not serve specific calls, etc. - but C&D is quite a different matter I think. It's like saying "I'm not going to the movies with you" vs. restraining order. I don't think Google is entitled to the restraining order just because they don't like how somebody uses their broadcasts.