I notice a 'BIG' difference when I encode digital video off my MiniDV camcorder as 480x480 as opposed to 352x240 standard.
my standalone player will only handle 2500 bit rate at that rez, but the results are obviously better.
PS. I use the Panasonic plugin with Adobe Premier.
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About the video being squeezed up in the corner when you lower the res, try decoding with 4:3 instead of 16:9, or is it the other way around. I forget exactly, but I have noticed that happening to me on my Pioneer DV-333, until I changed that setting. I have decoded at 720x480, 2-pass, with 128k audio and it seems to work fine.