we bought the v-tec v-smile game console for our son last year when he was 3, the games have popular characters and the joystick is big and easy to use, it can be changed for left and right hand people, we were lucky to get ours in a bonus pack where we got the paint system as well,
the games are $40 each but they cary in skill and go from 3 years right up to 9-10 year olds with the games changing to things like batman, so it is something that will grow with them more,
the only problem i have had (but it really isnt a major problem) is it runs on batteries, which is good because it makes it very portable with the only cord being that that plugs into the tv, and the joystick, but it can go throgh the batteries pretty quick. you can pick up adaptors on ebay all the time, and they are probably in the shops to, i just havent found one yet (but i havent really looked either)
extra joysticks can also be bought.
if you are going to spend the money on this type of system i would go for this one, while it might be a bit old at this stage they can stil go through the games, the buttons are really big and easy to use, and they will grow into it and hopefull have it alast them a long time