Peewee has it right in terms of LL rationale and a good use for display names, but the real reason was that pple would come to open accounts and probably get frustrated creating an ID (i.e. searching the list etc) and would abandon the signup process.
Having said that. the real problem with Display Names is that people are using all kinds of cool fonts and if you are in clubs you cannot figure out who to vote for incontests because people are chatting with display names like Missy the Hostess and on the contests board they are someting ridiculous like 109343jendor Resident.
LL should make it so that, you can creat a login ID, and THEN make a first name / last name choice of some sort, or at least MAKE IT OPTIONAL to have a hardcoded lastname other than the most RIDICULOUS of all ... "Resident"
IN many places the displaynames are impossible to read and really made a mess of reading the chats.
Don't like it at all, except like Peewee says, getting partnered or whatnot