EndlessKnight: All PS3 systems play PS1 games, but you're likely correct with your hypothesis of the removal of the PS2 hardware. (Emotion Chip, etc......) It was likely to reduce cost per system, and to get more people to purchase PS2 hardware in addition to the PS3. I would continue to hope that they add PS2 software emulated titles to the PSN store, but considering that they (and others) are into releasing updated HD versions, I doubt they will.
Now I'm not 100% certain about this, but from what I remember, the earliest runs of PS3s came with the Emotion Engine chip for almost 100% backwards compatibility to PS2 games, which however was later dropped. What I'm sure about is that in Europe, no version ever had the chip, so if you wanted to play PS2 games on your PS3 you had to get an imported console. As for the PS1 games, it's possible that those with the EE chip also carried over the PS2's backwards compatibility for PS1 games, but current models definitely can't play them. The PS1 games they sell at the PlayStation Store are emulated.
StingingVelvet: I agree in a sense, but at the same time I doubt people will care. I mean when it comes right down to it that's the problem, people don't give a shit. I've been reading comment sections and forums about this news story all day to get a sense of the reaction and while some people are mad there are just as many defenders, and worst of all the comment sections and forum threads are not that busy, most people don't care at all.
Come to think of it that's somewhat understandable for games sold at an online store in the first place, also people buying games online are a lot less likely to be disconnected when they play. Add that with console games usually you don't have the problem of not being able to play on-the-go if they require a connection, because you can't play them on-the-go anyway. So I guess PSN, Xbox Marketplace & Co. won't be where the straw breaks after all. But just wait for people to realise that their supposed game collections of the last 5 years inevitably start to evaporate soon. And how does the used games market still work anyway? I see a lot of those activation-based or even account-bound games offered on online auction sites. Unless you're really informed about this stuff, you don't know that 90% of what you buy there, you will never be able to play. This is going to blow up big time one day, and not just in the industry, but in the courts.