Cadfan, I think the Ghost and Raven Crowking seem to explain the difference - it is who gets to decide whether something might be appropriate or not.
With half-way clever players and DM, either choice will probably lead to the same game experience, so the question might be - is it really that important in practice or more a philosophical question? I don't know.
As a player, knowing that these things are out there, and that I can choose to interact with them
even if I do not significantly enhances the game experience, if not the actual sequence of effects. Much the difference in type (though not degree) between going to work knowing that you could seek another job, or being enslaved by your current employer. You might still do the same things on a daily basis, but I dare say that your experience would be monumentally different.
Except you left out the key aspect that makes it the same (for the purposes of level responsive design, I don't want to get into another argument about how dragons are different from wyverns).
In the first example, the DM (at least the one I'm talking to, also good DMs in general who don't trap the party into TPKs and then blame them for unavoidable mistakes) also makes sure that the players know enough information to make meaningful choices. Reasonable choices by the PCs still lead to level appropriate challenges. If combat with a particular foe would lead to inevitable death, warning signs are carefully erected so that combat with that foe does not occur. If that foe is otherwise encountered, the context (such as the "sneak past the dragon" scenario discussed above) is one of a level appropriate encounter.
I don't see a major difference between
1. "there's no enormous dragon next to the town because I didn't want the PCs to blunder into it and die at level 1" and
2. "ok, there IS an enormous dragon next to the town, but I don't want the PCs to blunder into it and die at level 1, so I'm making sure they know the dragon will inevitably eat them if they fight it, and I'm making sure that any DM instigated encounters with the dragons are non combat scenes where the PCs sneak past or hide from or flee the dragon. Technically the PCs could decide to do something moronic and end up eaten by the dragon, but only if they ignore the clear and obvious warning signs."
Except that, in my real gaming experience, players don't always take the hint. Moreover, they might think of things that surprise the DM. They might, for example, think that it is worth the risk to try to moniter the dragon's movements, and then creep into its lair when it is out, so as to gain a bit of its treasure. They might try to serve the dragon, or try to get the dragon to act against a mutual enemy. They might wish to pay tribute to the dragon in order to get it to perform certain actions for them, ala
The Godfather. They might even come up with a brilliant scheme by which they pretend to be agents of the dragon, and scam some local village or orc tribe to give up sacrifices to "their master".
Once the dragon is put into the world, what the players decide to do with it is out of his or her hands. Until the DM puts the dragon into the world, that decision is always in his or her hands. Sometimes this is because the DM thinks "I know what's best for my players", sometimes because the DM thinks "dragons are only for fighting or avoiding anyway, so there's no real difference whether the dragon is there yet or not", and sometimes the DM hasn't really given it any thought.
But, here's the thing: In a world where that dragon exists, the players get to decide what challenges to face. They not only get to decide if "fight the dragon" is a challenge they can face, they get to decide if "talk to the dragon", "serve the dragon", "convince the dragon", and "use the dragon as basis of scams" are challenges they can face. They can make an illusion of a dragon that is credible to NPCs because the NPCs know there is a dragon. They can, frankly, come up with thousands of other, better, ideas than the ones I have outlined here.
(This is not so different, BTW, than traps. The only use of a trap is not to have the PCs blunder into it. Sometimes the PCs can arrange to have their enemies blunder into it. Just as they might manage to somehow convince a powerful foe that his real enemy is that pesky dragon, in hopes that they will soon be one powerful foe less.)
It is the
players, not the DM, who decide if the dragon represents "The cards are all on the table. There is a dragon, and it will eat you dead. Do you want to be eaten dead by the dragon? Y/N. Obviously no." or not.
I have had low-level players seek out monsters they knew would probably eat them, because they saw it as a reasonable risk to gain some benefit they desired. Sometimes they were successful; sometimes they were eaten.
Player choices are not (or should not be) as black-and-white as you seem to think.
RC