Bigger sensors are worse, in theory. Reality is a result of marketing and the products actually on the shelves.
In film-land, there is motivation to make film big, because film is limited in having a certain sized grain structure, and you want to use lots of film so less enlargement is required to print a given size. Everyone knows that 35mm is grainy. It's at the bottom of the film-format heap, but the cameras are small, and have faster and cheaper optics than any other format. This is because of the small film size. If it wasn't for the grain, even smaller would be even better. And digital has no grain.
It's not easy to make very high-quality glass cover a large image circle. F/1.4 35mm lenses are cheap, but you can't even get a f/1.4 lens for large format. If anyone made one it would weigh a ton and cost bazillions, and the DOF would be totally unusable. This is why smaller formats are better, optically. It's fundamental optics. Larger formats are only better if your film sucks, so that using more of it beats out the optical disadvantages of using larger film. Even before digital, the progession went from 8x10 large format cameras, to 6cm wide roll film cameras, to 35mm cameras, as film got better and finer grained.
This goes back to the classic medium-format vs. 35mm wedding photography debate. Once upon a time, people used an emulsion of animal products and precious metals on a base of plant-derived clear film to capture and store images. I hear some crackpots still do. But anyway as you know, larger film should provide higher image quality because it requires less enlargement. So the pictures will be less grainy than a smaller format (sounds like the whole 'small sensors are noisier' argument). Right?
Well, as you also know, larger formats have less DOF at a given aperture than smaller ones do. So you are always going to be shooting a medium format camera at a smaller aperture than 35mm to get the same image with the same DOF and shutter speed. So you are always going to have to shoot faster, grainier film in the medium format camera in the same lighting conditions. At the end of the day, you can load fine-grained 50-speed film in a 35mm camera to take exactly the same shots as a medium-format camera loaded with 400-speed film. Thus, the 35mm advocates would say, 35mm can be just as good as medium format with modern films.
They are wrong; medium format is still better, if you have enough light. You simply shoot with a slightly slower shutter during the day...the difference between 1/125 and 1/500 doesn't matter for lots of daylight photography. But their point is sound, in that the smaller format size partially makes up for the grain/resolution disadvantage. If you need low-light performance or a fast shutter speed, or both, out comes the 35mm. It's just faster. The advantages are obvious; if it wasn't for film grain smaller formats would be better at everything.
Enter digital. CCD image sensors can fit greater resolving power than 35mm in a size that is much smaller than even 35mm. Hurray, this a great advantage, we can have smaller sensors. This should enable all the advantages of a smaller format: smaller, better quality, faster lenses, with no grain increase, and it kind of does...you can see that the "digital" lenses that have come out are smaller, cheaper, lighter, and have bigger apertures-per-zoomage than 35mm lenses. One of the key advantages of digital SHOULD be the small format size. This is a good thing, but people apparently missed the message. Instead of scaling sensors down, so they can use lighter, faster lenses at the same DOF and shoot at lower ISOs to reduce noise, people want to put a 35mm sized sensor in a digital camera so they can have big, heavy, expensive, worse glass, and less DOF for a given aperture so they have to use smaller apertures and shoot at higher ISO for the same DOF compared to the smaller sensor. Gee, what a great idea.
But you can hardly blame the photographers for falling for it, because the fact is they can't get the shallow DOF they want on a small sensor with the slow-ass lenses out there. Instead of pouncing on the opportunity to manufacture large-aperture digital-format lenses, thereby mitigating much of the "high-iso noise problem" and the "flat-looking" problem at the same time, the manufacturers just gave everyone the apertures they were used to in a smaller size, while now they could afford to bundle zoom lenses with their cameras because Joe Snapshooter loves zoom lenses and remembers them being expensive.
Where the hell are all the fast digital-format lenses? My 8mm camera has a f/.75 lens and is hyperfocal from 12 feet to infinity wide open, because of the extremely small image format. If f/1.4 lenses were considered the fastest practical lens on 35mm, f/.9 or so should be the standard on digital, while probably still being cheaper. So basically what happened is that instead of adapting to the new smaller format sizes to their fullest extent, the camera industry just stuck a smaller sensor in a similar optical system and billed the small sensor as "bug, not a feature" because it allowed them to slap kit cameras with cheap zoom lenses in apertures that the unsuspecting public would view as acceptable, and now they can push larger sensors as a superior and more expensive option to get the performance they should be getting out of smaller sensors with a host of other advantages that smaller sensors have on top of it all.
