The
hosts file is intended to be a bit of a poorman's
DNS system. For small
networks a complete DNS is often not needed, but as the number of
nodes grow it is often
hard to maintain
hosts files across a
number of machines, that is when a complete
DNS system is requied. Systems using the
internet almost always use
DNS because,
let's face it, who wants to have a file with millions of
hosts in it?
Also the hosts file is useful to add in quick aliases for machines instead of calling up the network administrator to ask to have a name assigned to a machine.
I know this information applies to GNU's inetd and possibly others.