Yeah, once you start using the Windows hard drive, it'll probably take up a few GB of space on your PowerBook's hard drive. I'm assuming you have 40 or 60 GB or so, so this shouldn't be a problem.
To install Windows, put your Windows CD into your CD drive, launch the Virtual OS you've set up in VPC (double-click it in the VPC OS list, assuming you've set it up), and it should automatically start reading from the CD. If for whatever perfectly legal reasons 😉 you happen to be using an .iso file on your hard drive, you must first launch the OS in VPC, then at the bottom click on the picture of the CD, and say "capture CD image," select the image file, then probably you can just press any key.