There isn't much information on how it works (none that I've seen). It is a detail enhancement solution, but whether it dynamically adjusts I'm not sure. At rate, it doesn't seem to do as good a job as Sony's Reality Creation, nor for that matter, Epson's Super-Resolution which I don't like quite as much as Sony's approach.
It seems to be a fairly smart sharpening program, using some edge sharpening, and perhaps contrast enhancement itself. Certainly as you dial it up thin lines tend to become higher contrast, going from darker to lighter. I have several images in this player, where you can see different Clarity Control settings on the same frame.
In the dark scene of Rivendell you can barely make out subtle differences if you go back and forth between the three images. Look at the large bright roof areas. Much easier is the image of the priest from The Fifth Element. Look at his cheeks, the threading in his cloak, his hair, etc. There it's easy to spot. In both sequences there are three settings 4, 2, and 0 (off)
Overall, not a huge amount of difference between off and 4 which is the maximum, but there is a visible difference. Noise in the Priest's cheek is also noticeably more visible with the higher setting.