when in doubt, wikipedia.
The answer to your first question is that if you vapourise a couple of hundred grams of anything into particles a few microns across, you can generate a very large aerosol. If you look at the smoke clouds some fireworks throw off as an incidental side effect, or a piece of burning tire rubber, smoke grenades aren’t that extraordinary, bearing in mind smoking is their primary design purpose.
As to your second question, I guess it would be entirely possible if two different types of dye material were used in the filling - not sure why you would do this in WW2 (signalling perhaps?) although nowadays it might be used to block different IR as well as visible wavelengths.
That’s why it sounds a bit dicey.
I would imagine that one would normally only use single-colour smoke for that sort of application, since if e.g. your grenade malfunctioned and only dispensed one colour instead of two, or one colour was masked by the other, it might cause some confusion on the part of the guy delivering the ordnance which wouldn’t be good.
However, for all I know Dulux Pastel ‘normal smoke with a hint of purple’ was the usual blitz-summoning colour of choice at the time - I’m not sure how good WW2 pyrotechnics were.
A good friend of mine does airshows, and makes up his own smoke cartridges. (they dramatically outperform anything available commercially, at a much lower cost to boot) As a result of his experimentation, I know a lot about this topic. While all the information is in the public domain, my buddy put a lot of time into getting his smoke to work just right, so I will respect the specifics of his mixture as a trade secret…but I can illuminate this discussion a bit.
White smoke is a lot more efficient than colored smoke. With the right chemicals, the smoke itself can be hygroscopic. It pulls water vapor from the air, essentially forming a cloud. A white smoke cartridge can burn at atmospheric pressure with an open end, and is thus VERY unlikely to inadvertantly explode.
Colored smoke on the other hand, is as posted above is a matter of aerosolizing dye. It is a bit tricky, as too much heat/pressure can burn the dye, and not enough pressure leaves the particles too big to stay suspended for long. A colored smoke cartridge needs to operate at fairly high pressure with a nozzle to disperse the dye. This means that if everything doesn’t go just right, it can explode.
Funny true story: In our younger years, we were hang glider pilots. If a hang glider pilot is planning to go “cross country” (XC) and doesn’t know where they will land, it is not uncommon to carry some smoke cartridges to drop in the landing field to indicate wind direction.
One of our friends had stowed (for transport) an orange smoke cartridge inside his helmet. Vibratation or rough handling caused it to disintegrate inside his helmet. Turns out the dye is very concentrated. After dumping the powder out, there was still plenty remaning to produce bright, indelable streaks where his sweat disolved the dye and it ran onto his brow and face.