Meanwhile, Harvard Gazette has an interview with Stephen Mitchell, the university's professor of Scandinavian folklore and a Tolkien enthusiast:
Where does the word “hobbit” come from?
I think you could probably start bar fights over this. There is, I believe, a heated debate about where the word comes from. The obvious answer is that it’s a combination of “human” and “rabbit,” a people-who-live-in-holes kind of thing. But as was pointed out years ago … there is a list of supernatural creatures from Yorkshire, and it does include the word “hobbit.” Scandinavians, for example, refer to the elves as the hidden or underworld people.