Thanks roflitskyle,
I tried this as well. It does make me wonder if the App Store and a Library are somehow interwoven with each other, or if this is some bug that has messed up the iPhone and Library.
Here is a bit of an overview.
My library doesn't seem to have changed. It still has all the same songs and music, the same podcasts etc. Last week, I signed out of my normal German iTunes account and logged into my UK iTunes account and downloaded one free App. I then synced my iPhone and the app moved across with all the others.
I can't remember if I was still signed on to the UK iTunes account at that time, but I think so.
Later I added new podcasts from the usual German iTunes account which I signed back into, and when I wanted to sync with my iPhone it said I had not enough space. Fair enough as it was quite full. So, I went to delete some Books from the iPhone and found I couldn't do it and got the message above.
I then went to my music and couldn't delete any either, and noticed that although my music wasn't set to "sync" automatically (which is how I want it) I found the check box above for manual control of music was not selected. Trying to select that also brought up the message above.
It seems I can not do anything with the iPhone as it seems to think the iTunes library is different.
Music is supposed to be manual (not syncing) but many other items like calendar, notes, mail, podcasts etc were set to sync.
I am wondering if there is a way to point the iPhone to the correct library. I know the mentioned "alt" key option for pointing iTunes to the right library, but that seems to be different.