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I don't know what caused this. I had replaced the bearings in the past, something I've done many many times with no problems. What I'm asking here is whether this level of damage is normal or the bearings are cheap. I mean: the rightmost "cheap bearings"  in the picture can be separated into a smaller (about 3/16) inner ball and an outer 1/4" shell!This is the first time I used bearings from ebay, and would like to have your opinions.

he notes that in Honduras where he lives they sometimes could only get cheap Chinese bearings that "used to 'peel off' like an onion". Perhaps you got some of those? See also the response of "Mike" in this thread [1], who had a similar (albeit worse) experience with cheap bearings. 

Good properly tightened bearings should last for many thousands of miles/kms, and usually races tend to show the damage more clearly before the balls do. I've never actually over-tightened a hub and tried to ride on it to see how it fails when it seizes (and I'm not saying you did that, but it's the only other explanation I can think of other than cheap bearings), but based on both the SKF paper linked above and this paper  and this analysis it seems like ball bearings delaminating or fragmenting is not the most common failure mode, because none of them discuss it. Particularly in you can see that the balls in seized bearings polished off a contact patch against the race rather than disintegrating.

Unfortunately I have seen this all too many times working as a workshop manager in a performance bike shop, Cheaper wheels and in certain cases some expensive japanese made ones use a cup and cone system which when correctly adjusted and maintained will give the same minimal rolling resistance and smoothness as ceramic catridge bearing wheel sets. 

Unfortunately if the wheel is not maintained or correctly adjusted the cones work loose allowing dirt ingress and pitting of the fag bearings. This in turn if the wheel is continually used will produce the kind of bearing failure that you see in the image. 

Whether this has been increased by the bearing quality I can't advise but I would say the only way to truly have a low maintenance wheelset is to move to catridge bearing hubs. My personal favourite are a british company called "hope" but these are performance wheels and therefore you will pay a higher price. 

I ran across a the jackpot. A place called Industrial Liquidators had a pretty big assortment of large bearings. They were all under $25. That said, I'm going to experiment with different ideas over the big weekend. If my idea works (a big IF), it has potential to be a resellable product. So basically I'll need to be able to work with "off the shelf" parts.I'm going into the garage right now to try my three ina bearing theory out.Plus I need to figure out how an easy way to create a spindle...specifically how to add a gear (or some method to control it's rotation). I'm going to try to cut through a gear I have, then I could potentially either weld it in place or weld and turn a mount and screw the gear to the mount.

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