You can add effects on your armors/weapons with the different ingredients you found. Like the essences will add resistance bonus on you armors. Thus, you can upgrade your items.
At level 5 (crafting/blacksmith), you'll be able to create "magical" items out right. For example, the leather armor you can create will have more properties, and will still allow upgrades.
Blacksmith skill is linked to metal working and the crafting to everything else.
maybe, but no weapons, you cant create magic or rare weapons. Even with level 6 blacksmith you can only make the same white ones, and you cant upgrade them enough, so its useless to make weapons. Better hope for good drops and upgrade the, pretty dissapointing mechanic if you ask me, you can make blue armor why no blue weapons. so what im doing with all my iron bars? making white swords and sell`? i will have an eye on this