Challenging. But that's an understatement imo. ADOM, Nethack, URW, all those games that are unforgiving, even cruel at times. But it's fair, since when you play them you know what you're up against, so in the end it your own damn fault no matter how you're killed.
TES2 was challenging, but when decades pass you become too good in it. Same with TES3. But they still give you choice to make harder characters, or even 'cheat' to get bad stats to begin with. Battlespire I haven't played enough to know if it comes easy, but now it sure aint.
Then there are games like The Witcher, and best ones of Bioware, where the challenge comes in form of making tough, even very tough choices and living with them. That I LOVE.
(This whole thing made me feel like playing UFO:Enemy Unknown through with hardest, and without save/loading. Love how those plasma guns just rip your crew apart. You ending up losing expensive crew, craft and equipment, and money.)
Edit: let me bring up multiplayer games. I, myself play Warcraft III. I'm pretty good at it (of course), so when the enemy team is obviously weaker it gives no satisfaction. The best games are long, and when you manage to turn the tide from certain defeat into a victory, especially when you know the enemy was (on paper) a better player than you, then it feels like something. Pwning noobs is just boring. Put against impossible odds and winning, now that's something. And usually it takes thinking/strategy (obviously, in a RTS)
One quick example: 3 versus 3 game, big map where no one usually attacks fast but builds an army. On the enemy side is one of the best players on battle.net, and I know we lose unless I pull a stunt so cunning I get the other 2 enemies quit/leave. I send my hero (Blademaster) harassing the enemy side, luckily finding the enemy who is not the good one. I manage to kill his whole bunch of units and hero, plus the creeps he was trying to kill to gain experience, making it clear to him that he has no chance against me alone. He shows just what I wanted: poor teamplaying abilities, so instead of hanging in there and asking for his allies for help, he quits the game. Disheartened of this sudden event, the other mediocre enemy leaves too. The gosu is alone versus the 3 of us, and even if he still has a chance to play and even win, he doesn't want to try since I know it's very frustrating. Good Job he says and leaves, giving us a very fast victory, even when there was no real combat yet in the whole game. So striking the weakest spot when they still had one, gained success.
How to manage this sort of balance/challenge in a single player game? Gothic series was mentioned, and there you never get the feeling of 'pwning noobs' when you're fighting even the weakest enemies. Endless armies of rats and goblins that die from one hit are no fun. Unless you die from one hit too, when facing them