Is the histogram a tool to be used while you are taking pictures in order to know whether to retake the picture, or is it (also) a tool for processing. I/O/W., if the histogram shows that the picture is under/over exposed, is the "fix" then to immediately retake the picture adjusting the settings, or is there some sort of adjustment one can make in processing the picture to "move" the histogram readings more towards the center? (I know (suspect) that last question makes little sense, but I hope you know what I mean.)
IF TIME PERMITS, you can use the histogram as a guide to re-shoot the picture, making adjustments as necessary (+/- Exposure compensation, for example, if you use the "Creative Zone"). In high contrast situations, you might want to try using auto bracket. Set the bracket range to +/- one stop, and set drive mode to multi. Then when you shoot, you will get three pictures--one at the meter's setting and one each one stop above and one stop below the meter.
In software, you may be able to make adjustments depending upon how seriously under or over exposed the image is. If you have highlights completely blown out, there is nothing you can do. Similarly, detail lost in noisy shadows cannot usually be recovered.
FWIW, you do gain a little exposure latitude when you shoot RAW. Canon's Digital Photo Pro software (shipped with 20D but also a free download from Canon for the Digital Rebel) will provide some adjustment to RAW images beyond what you can do with compressed JPEGs. On this point, you can only test for yourself. I've read contradictory opinions on this issue, but my tests say YES, RAW gives more exposure latitude. I find I can effectively "bracket after the fact" using DPP to process a RAW image twice--once for highlights and once for shadows. The resulting two images can then be combined in Photoshop.
Oh, and for your first question, if you are going to shoot JPEGs, only shoot large/fine. However, once you've seen the capabilities of RAW, you'll never go back.