I am an idiot - RTFM as they say in the Unix world - only its a case of
FTFM in this case as its rather obscure, imho.

In the original problem I erroneously thought that the schema was
partly validating the input because exceptions were thrown when the
schema datatype was wrong (eg data is a non-number and
....type="xs:integer"...). What is actually happening here is that the
xsd is being used to type the columns of the dataset, and when you try
to assign something to a column of the wrong type you get a Format
error exception - nothing to do with xsd validation of the xml at all.

The solution, in a sentence, is that the XmlReader argument to
dataset.readxml() must have an XmlReaderSettings object associated with
it, with its ValidationType and Schemas properties set appropriately;
optionally you can set its validationeventhandler property as well. I
discovered all this from an excellent website I'd overlooked:

http://aspalliance.com/941#Page3 which I acknowledge with thanks.

Here is the revised code, which works. The only thing I haven't figured
out is how to pick up the Line Number and Line position from the
XmlReader - if anyone can see what the commented out statement in the
error handler is doing wrong I'd appreciate - its a scoping problem of
some kind.

protected void Button1_Click(object sender, EventArgs e)
   {
       StreamReader SR = new StreamReader(Server.MapPath(".\\" +
"App_Code\\DataSet1.xsd"));
       XmlSchema Schema = new XmlSchema();
       Schema = XmlSchema.Read(SR,
           new
ValidationEventHandler(ReaderSettings_ValidationEventHandler));
       // 5- Create a new instance of XmlReaderSettings object
       XmlReaderSettings ReaderSettings = new XmlReaderSettings();
       // 6- Set ValidationType for XmlReaderSettings object
       ReaderSettings.ValidationType = ValidationType.Schema;

       // 7- Add Schema to XmlReaderSettings Schemas collection
       ReaderSettings.Schemas.Add(Schema);
        // 8- Add your ValidationEventHandler address to
       // XmlReaderSettings ValidationEventHandler
       // Leave out this step to use default error handler
       ReaderSettings.ValidationEventHandler +=
           new
ValidationEventHandler(ReaderSettings_ValidationEventHandler);
       XmlReader rdr = new XmlTextReader(Server.MapPath(".\\" +
"XMLfile.xml"));
       XmlReader objrdr = XmlReader.Create(rdr,ReaderSettings);
       DataSet dsforload = new DataSet();
       dsforload.ReadXmlSchema(Server.MapPath(".\\" +
"App_Code\\DataSet1.xsd"));
       dsforload.ReadXml(objrdr, XmlReadMode.Auto);
       GridView1.DataSource = dsforload;
       GridView1.DataBind();
   }
private void ReaderSettings_ValidationEventHandler(object sender,
   ValidationEventArgs args)
{
   // 11- Implement your logic for each validation iteration
   string strTemp;
   //strTemp = "Line: " + this.objrdr.LineNumber  + " - Position: "
       //+ this.objrdr.LinePosition + " - " + args.Message;
strTemp = args.Message.ToString();
   Label1.Text += strTemp;
}