[jsz0]

What happens when someone writes an app that blocks ads on the Android phone

Already exists. AdFree. Requires a rooted phone. Blocks ads system wide. I actually found out about this because of people complaining about the obtrusive video ads in Angry Birds. I don't think the average person is going to root their phone just to block ads but as more people are driven to use alternative ROMs it may be an issue worth considering for developers.