It's not clear from that page, is there any limitation on the powers of the application-specific password? While it's less likely, if one of those passwords gets stolen can your entire account still be accessed including your account settings?

On Android, the device specific password is used for your phone's Google Account. Which means once you set it up, all Google apps like Gmail, GReader, Talk, Market, etc. will work as usual.

If you suspect your device password is compromised, you can revoke it from your Google account settings in a regular browser.