Bot sure what it was, everything else was updating just fine. I tried to remove angry birds, but it would not let me reinstall. Finally did a factory reset and not it is updating just fine. Oh well, problem solved.
Same thing was happening to me. Found out that /sdcard was corrupt. I backed up its contents to pc and then used the phone to format the /sdcard. Moved my files from pc back to the card. Good to go. Give that a try.
I tried several times. Then I looked through the folders and saw that /cache had barely enough space left for the download. Several Download-x.apk files were in there. I deleted those and uninstalled a coupled of big, unused applications that I saw in the davlik-cache folder.
Once I had 20+ MB in /cache, the download and install worked fine.
Anyone know why these Download-x.apk files are left around? Do they get cleaned up somewhere?
Hallelujah! Success at last! The solution for the update problem and at least some of the installation problems (like angry birds rio) is as follows:
First, hook your phone to a computer with a usb cable - need to have your phone in "disk drive" mode. Most likely your phone will at first say "charging only." you will have to click on this to pull up a screen that allows you to change it to "mount as disk drive." Note: this may take several attempts. If your computer does not recognize the phone as being hooked-up at first, unplug it and try again.
Now, open the new drive that will appear on your computer (which, of course, is actually your phone's sd card).
Next, locate the file folders named ".android_secure" (it should be near the top of the listings).
Click on and open up this ". android_secure " folder and look for a file named "smdl2tmp1.asec"
Delete it! Destroy it! Kick it out of your life! It's what is causing the problems!
Unplug your phone. Phone will say something like "preparing sd card." It could take a bit but after that you can update all the apps including those on your sd card and angry birds and download Rio hassle free.
This, IMO, is much better than the suggestions that involve deleting the android_secure file altogether since you DO NOT have to move your apps off of the sd card and then back on again for it to work!
Credit goes to "the Engineer" who, near as i can tell, was the first to post a version of this fix. As there a a whole bunch of threads on this issue, please pass the fix on.