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The size is a diagonal measurement, e.g. 5" diagonal is 3" wide by 4" high.
Since ebooks are viewed in a reflowable format (e.g. like a web page, where you can make text larger or smaller), the difference between 5" and 6" is how much text can be displayed per page at a font size you are comfortable with. If you use a large font size you might have to use the 5" in landscape mode to get enough text per line but in general either screen size is OK for reading. With the 5" you will turn pages more often (less text per page) than with the 6".
The 7" is the same width as the 6", so the 7" gives you more lines per page in portrait orientation. In landscape, the 7" in principle can display PDFs with more magnification than the 6". I don't know if Sony's PDF handling is good enough to take full advantage of this, but 7" is definitely better for PDFs when viewed by magnifying the original page layout (rather than reflow, i.e. converting to text and images, which the Sony's also support for some PDFs).
Make sure you are buying the new 350/650/950, because they are much better than the older 300/600.
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