They are calling this FOIP, or Face Over Internet Protocol. In short, they use your webcam to perform facial motion capture, and then apply that to the face of the in game avatar. While this is cool as a tech demo, I don't think I'd want this in a game.
From Allegra Frank's article for Polygon:
"We watched a conversation happen between two players as they crossed paths on a gigantic spaceship, each avatar flapping their lips emotionlessly at each other. They were perfectly synchronized and matching the words players were speaking, to Faceware’s credit. But we couldn’t help but stare slightly aghast at what was happening."
Basically, it looks too fucking weird for Primetime.
EDIT: They showed "FOIP" off during their Gamescom presentation. At times, the live demo in an uncontrolled environment looked a lttle clunky, and it is probably more akin to what the end user will experience. As my roommate put it: "It's cool, but looks weird. But it's not as bad as when they try to put your face on the character." High praise.
Yet, as much as it may look weird, I'd like to highlight two things that definitely stand out. Mixing the player voice in with the game so it fades in and out and pans left and right as the character moves is a nice touch. The head tracking, enabling the player to "look around", is something that would definitely useful in a combat situation.