The colorful thing is just the result of contamination within the layers of the TS and the dots are actually the TS sensitive dots (you can see how coarse is the sensor resolution!)
The problem normally happens a few months after starting using an HTC TATTOO and it is due to very VERY, I mean VERY!!! poor technology design and production standards.
It normally happens because of exposure of the phone to humidity. This can happen even just because of perspiration or talking very close to the phone (well, guess what normally people do with a phone!).
I have not investigated further the matter but I assume the sealing between the TS layers is defective and some contamination enters. I don't think humidity by itself is the cause of the problem. I guess the chemistry of the sensitive layers is affected or colonies of microorganisms develop in the gap between layers. The result in any case is that an adhesive, thick, probably conductive fluid accumulates between the sensitive layers and interferes with the sensor matrix.
I have tried cooking the phone to up to 100 Celsius degrees (after removing the battery, of course), freezing it, keeping for one week in a virtually no humidity environment, exposing it to high and low pressure environments. Nothing works. After the phenomenon starts normally the complete failure of the TS happens in matter of few weeks.
The good part of the story is that as long as you manage to get the problem happening during the warranty period (one year the first time and 3 months after the first substitution) you can have the TS substituted for free a virtually infinite number of times.
I strongly suggest that HTC revises the design of the TATTOO and ensures proper quality standards (i.e. pay reasonable price to the provider of the TS to allow them ensuring adequate standards)
Pix