What's the Difference Between a Chrome Web App and an Extension?

Web apps are basically websites. They run within Chrome's browser, and they may not even require any downloads. Sometimes they may need to install a small component on your local machine, but that will only make a difference when you're using that particular Web app. An example Web app would be Google Docs. It runs within the browser and doesn't require you to download anything, but it has its own user interface.

An extension, on the other hand, affects something global on your browser. For instance, an extension may add the ability to save items to your wish list. When you install the extension, that feature is available on every single site you visit, not just on Extensions use downloaded components to modify your browser.