There have been some other utilities that turn your iPhone/iPod touch into a flash drive, but this one is free and very easy to use. It's called iPhone Explorer. You install the app on your Mac, or your PC (there's an app for each platform) and you're ready to go. You'll see your iPhone appear when it's plugged into your computer. You can view the folder structure, and drag and drop items to or from the iPhone to your desktop or back the other way.
You can create, delete and rename folders on your iPhone. If your iPhone is jailbroken, you can access the real root and then recover things like your address book, emails and SMS messages.
if you want to do this over a wireless network there is Discover and Air Sharing. Discover is free, Air Share is U.S. $2.99.
I'm not really sure why Apple didn't allow this functionality to begin with, but that's Apple just being Apple. I tried iPhone Explorer on my desktop Mac and it connected to my iPhone 3GS in a split second and I was good to go. Don't expect to be able to interact with your iPhone with this app in any complex way. It's really just giving you flash drive capability, and if that's what you want, this is a good place to get it.