Were there any alternatives/dead ends you went through to arrive at this technique, or any extensions you wanted to do but didn't find the time? Really amazing work BTW, this might be my favorite demo ever!
There actually was an extension I did, that was scrapped because it just didn't look good. At some point there was support for dithering. That helps with the low color precision of the Mega Drive (3-bit/channel). It only supported 50% checkerboard dither though, which looked odd when animated. I toyed with some ideas on how to improve upon that and discussed them within our demo group, but in the end the decision was to not use dithering.