What does setting a default skin actually do?

When you set a skin as the default for an item, it is automatically applied in three situations: when you craft the item, when you pick up a skinless version from the ground or containers, and when you join a server (your starting hatchet and torch get their default skins). Mallet skins are also available — you can find the mallet in the Melee Weapons section and set a default skin for it as well.