Some valid points.
I think some of the powerhouse states have significantly higher numbers (Illinois, Ohio, PA, TX, NJ) and deeper talent than Indiana so it makes sense for them to class. As for KY, I have NO idea why they class.
Could a classed system work? Who knows? It would not "kill" Indiana wrestling by any means but it would drastically water it down for at least 5-7 years if not indefinitely (until these small schools have the success snowball factor that you and Y2 believe it would).
Of course there is no guarantee that the small schools will have any more success than they do now.