Very bizarre, but my iPhone 4 began doing this as well. I've been using it with my old Linksys and new Airport Express for a while and then out of the blue it stops connecting to the network.
I have a private and guest network setup on my Airport Extreme, the iPhone 4 with the WiFi turned on will gladly find these two networks. Both the networks are secured with WPA2 Personal security and entering the correct password yields a "Incorrect password for network 'name'" for both the networks.
My iMac, wife's Windows 7 Dell laptop & Droid 3 phone, and my iPad 2 don't have any problem getting on the private or guest networks with the right password.
The fact that my iPhone 4 can scan and find the networks should indicate that the antenna and associated WiFi components are in enough of a working order to get connected, but it is strange that the valid password is rejected as being incorrect only on this device.
I haven't sync'ed my iPhone for a while now so doing it now in case that clears anything up. Will also do a backup and full restore to see if that makes anything happy..
Does anyone have any theories on this?
UPDATE: Did some more searching on Google and YouTube videos and one of them suggested that resetting the network settings could potentially fix this, so I tried it and bingo! I have WiFi working again. So Settings->General->Reset->Reset Network Settings did the trick for me..