I'm currently working on a project that incorporates flicker in an actual game (dual compatible), so I can share some info from experience.
60 fps flicker is virtually imperceptible on the DMG, so it looks really great; 30 fps, not so much.
Flicker on the GBC only blends at 60 fps, but even then it produces vertical or horizontal lines (probably because the GBC LCD is interlaced). You can see these lines if you load up Nitro's flicker example. But in some special circumstances, this effect can still be beneficial. In my project I'm flickering between red and black to get dark red, allowing a sprite with more than 3 tones without sprite stacking.
As for Nintendo's claim; the effect is fine if you're making a duel compatible game (so that color palettes are used instead of black&white flickering). Really only issue I've found with a DMG game played on the GBC is, like I said, the horizontal lines.
Now as Nitro said, the Super GameBoy playing on a CRT monitor will ruin the blending illusion and look awful. But I'd say the pros far outweigh this one con. And a developer COULD theoretically run special code to turn OFF the flicker effects if played on a Super GameBoy, so I don't see why they didn't go that route. Nintendo probably didn't like a non-Nintendo company putting out a game that exceeded their own standards.
In my project you can see an actual screenshot of the GBC using flicker to give the Shao Kahn character (center) more than 3 hues (namely the red armor). Screenshots here: http://chipmusic.org/forums/topic/11139 … w-project/
I've also tried to extend the palette past 7 shades by using other combinations at 60 fps, such as mixing black with light grey. If light grey is 25% and black is %100 then that should provide at tone of %62.5, theoretically. But in practice these additional combinations aren't visually distinguishable from the regular 7 shades.
In summary, 7 shades is indeed far superior to the regular 4. It especially helps make the characters pop from the background.