because it is linux! the os and the applications are stored on a seperate partition formatted with linux file system (ext3)
The mass-storage partition is formatted with a FAT32(?) filesystem to be compatible with windows. If the whole filesystem was formatted with ext3 (in order to use it as application memory), there would be no usb mass storage for windows computers.
The same applies to desktop PCs: i have two dedicated partitions, one for windows and one for linux.

However it might be possible to change the size of the partition. i assume the community will figure it out.

EDIT: whoops! 2 posters where faster than me.i definitly need to type faster