I have build a debian router system on my 256 mb flash card like that you talked about on the lists.debian.org.
I have a pretty small system (~60 Mb) with the following: DHCP,Mail,WWW,FTP,DNS server, Routing etc...
Compressed filesystems are secure, but on an USB Pendrive could be very slow. RO FS can be very secure if you dont want to modify anything ever (/etc ...).
I used a little trick, because I can't find compressed RW filesystem: the /var dir contains variable things (logs..) So I wrote a script pair which is called from /etc/rc2.d,rc6.d.
One is compressing the /var to /mnt/var.tar.bz2 before reboot and power off and the other decompress the file to /var on booting up process. If you want, I send you the scripts. Most important: run these scripts when none of the daemons and anything that uses /var is running. This method could be secure this way. (my /var was 69 Mb before using this and generated a 8.9 Mb compressed image). If you have enough memory you could place the /var on a tmpfs ram disk, so the variables (caching) could be faster.
Unfortunately i have a very special stability problem on my hardver (CFtoIDE adapter, Kingston flash card, ITX motherboard etc...), so I will use a traditional HDD.
Sorry if I have bad english.