This is a known hardware issue. My symptom was that pressing any key in the bottom row of keys in the keyboard when in portrait mode (which is usually since only Safari has the keyboard available in landscape mode). the numbers/letters switch key, space, and return, would instead activate the letter just above it. Seemed like software to me too because all other apps used the bottom of the screen fine (e.g. the bottom launch bar in Springboard). However, it turns out that different apps use slightly different parts of the screen surface with slightly different extents so that they appear to be using the same parts of the screen but actually aren't.

Genius bar guy said that this is a known problem in a subset of 1st gen iPhones (in fact, the guy next to me at the bar also had dead-spots on the screen problems). Swapped me out for a like-new refurb unit, no cost, even though I was out-of-warrantee. I say no cost but of course they're not going to do this on a phone without a valid contract (at least I assume they're not). I was on T-Mobile (USA) so I had to switch to AT&T before going in. Picked up a 3G when doing so and like it so much better that I'm not going back. So I went from $40/month for 600 minutes plus $6/month for unlimited data to $40/month for 450 minutes plus $30/month for data. Don't like that, but the combination of almost always high-speed internet (WiFi or 3G) and GPS makes the phone so much more useful (especially Google Maps). And now I have a spare unlocked like-new 2G.