I actually switched to using an EC2 Micro instance because my 256MB VPS didn't have enough RAM to compile some of the packages I needed. The compile took a while, but they were for libraries I rebuild maybe once a month.
As far as development goes I haven't had a problem yet with speed. I tend to do small incremental compiles, and when I need to a full compile I go get a cup of coffee.
Just to clarify, the $20/month Linode I'm referring to has 512MB ram.
I'm just using compiling as an illustration of CPU performance. You'll have the same problem when running unit tests, for example. You can only spend so much time on forced coffee breaks before it gets old. Or you can have a very tiny test suite.
As far as development goes I haven't had a problem yet with speed. I tend to do small incremental compiles, and when I need to a full compile I go get a cup of coffee.