Well, I had the same problem for a while (weeks) but decided to ignore it. I finally snapped today, and discovered a solution.
After entering full-screen mode, press command-3. This enables "Fit-to-Screen" from the view menu. This setting is sticky; selecting another video or switching from full-screen to windowed and back works fine.
Apple, why did this functionality change? Personally, the whole point of full-screen mode is to see a video FULL SCREEN, even if this causes a loss of detail.
osx 10.5.2, itunes 7.6.1