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What was it intended to be used for? I've only seen one contact inside it ever, and that's my own user account. This question is out of curiosity.

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The contacts folder allows you to use your contacts in certain application that will let you use saved contacts.

An example could be Microsoft Outlook, this uses your contacts folder to store all your contact info and can be used to send emails to if you have email addresses in each contact.

I use Apple's Mobile Me to sync my iPhone contacts with windows so I can use outlook to send my contacts emails, this is one use for it.

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Office Outlook does not use the profile Contacts folder. Instead, Outlook contacts are stored within Outlook's mailbox or *.pst file. Outlook can import the card files from the folder, but otherwise it does not use them. –  Dai Feb 23 at 12:44
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You can import contacts from CSV and vCard files, as well as LDIF (for LDAP servers) and Outlook Express. Wikipedia says that it integrates with Windows Mail. The MSDN page for the Windows Contacts API says that it only exists for back compatibility, presumably because Windows Live Mail is a replacement for Windows Mail.

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