It's unclear why Apple needs to track the location of users, but it's not something that hasn't been done before. Google has said for some time that it collects location data from Android phones. For Apple, the change may be iAd-related as well: targeted ads depending on your location, if you're using something like Where.
It is true that there is a "Location Services" page under iOS Settings -> General that prevents apps from using location information. New in iOS 4, though, is the ability to granularly set app-by-app permissions to use location information, as well as a total on/off setting. You can even choose to block Apple's own applications like Camera. However, it's unclear that this setting prevents Apple itself from gathering and storing location data.
If Apple CEO Steve Jobs' words from the earlier D8 conference are to be taken at face value, one would think the setting totally shuts down location information. He said:
We’ve always had a very different view of privacy than some of our colleagues (we know who he means) in the Valley. We take privacy extremely seriously. That’s one of the reasons we have the curated apps store. We have rejected a lot of apps that want to take a lot of your personal data and suck it up into the cloud.We'll see if some clarification by Apple comes, as this will likely become contentious.
Privacy means people know what they’re signing up for. In plain English, and repeatedly, that’s what it means. Ask them. Ask them every time. Make them tell you to stop asking if they get tired of your asking them. Let them know precisely what you’re going to do with their data.
On the other hand, at least a few folks have noted Location Services not working at all after an iOS 4 update.