Well, the only thing I can think of that might work is if they added the arena from oblivion again, if they had the option of either fighting an npc like normal, or fighting split screen or online with someone, that might work.
Aye, death would be a tricky concept to manage with proper full blooded 2 player co-op.
The only way round it that I could think of was if one character loses their health, they become 'incapacitated' until combat is resolved one way or the other - their mate survives, they can be revived, their mate borks it, they both die and the session ends.