What's going to be funny is that Google will release a 5.5" Nexus and call it the Nexus 6 and the argument for both sides -- named after closest screen size vs named after generation number -- will both still hold true.
Personally, as others have said, I think it's now based on screen size. It might have been based on generation before, but now that the Nexus branding spans multiple device-sizes, it doesn't make any sense to call it by generation anymore.
The Nexus One - this is the first and may have been named "One" to signify the first generation. This is before the Nexus 7 or 10 existed. So that makes sense.
The Nexus S - 2nd Generation. I think this had more to do with tying in with Samsung's growing popular "Galaxy S" branding, than anything to do with generation signifier/screen size.
Galaxy Nexus - 3rd Gen. Same deal as above; I think this was more about tying in with Samsung branding. "Galaxy".
Nexus 4 - As others have said, this is a happy coincidence that it's 4th generation. This is around when the Nexus 7 was gaining popularity. Why would they name the phone after generation, but the tablet after screen size? Shouldn't the Nexus 7 have been Nexus "One" of some sort? It's just a happy coincidence. It'd be somewhat misleading to claim it's a Nexus 5 as it's not nearly quite close to a 5" screen.
Nexus 5 - Again, happy coincidence that this is a 5th generation device. Now you have the Nexus 7 and Nexus 10. Why aren't the Nexus tablets named Nexus "Two" and Nexus "One" (10") if it were based on generation? 4.98 is now much closer to 5" and so Google can confidently label it a Nexus 5 while hitting that happy coincidence that it's also the 5th generation device. Maybe that's what they wanted to do all along; hit both links (screen size and generation number).
Nexus 6 - As I said above, if this ends up being a 5.5" device, Google might be daring enough to call it a Nexus 6 and it would once again be a happy coincidence that hits on both screen size/generation number. The rumored Nexus 8 (shouldn't this be a Nexus "One" again of its kind?) would fill that tablet space as well. If the next generation Nexus retains its 5"-ish size, I predict it will be called Nexus 5 (2014).
But as others have mentioned, the number one reason why its not based on generation number is because it would one day soon conflict with the tablet names. The 7th generation Nexus smartphone would then be called a Nexus 7? That just doesn't make much sense. Whether the previous devices were based on screen size or generation number, you can rest assured it won't be based on generation numbers moving forward.
That's my take anyway. It just makes everything cleaner and more organized to go by screen size too. Nexus 5, Nexus 7, Nexus 8, Nexus 10. Easier for consumers to understand.