I believe they are already competing. Both of my girls (5 and 7) are getting the latest touch as soon as it's released. They wanted DSs until I showed them the touch. Now they want the touch. It works for me because I already have all our Music and Movies in itunes. Were talking a library that is quickly approaching a TB of movies. We have also seen several Disney games released for the touch (including - Pixie Hollow) that my girls can not wait to play. If there was a Hannah Montana game it would be all over but the shouting. (but I haven't seen that one yet)
I'm waiting for Apple to produce the kidsTouch or whatever they want to call it. My son is not even 4 yet and he's become an iPhone pro