Here's where it comes down.
All discs are playable on the Arcade. The Arcade comes with 256MB memory (older models with a memory card, whilst it's internal memory on newer models, I believe). With that said, you can download a couple XBLA titles and still be alright.
Additionally, if you buy an Arcade, you can apply on Xbox.com to get either a free (additional) 256MB memory card, or a $20 20GB HDD (you'll only be able to use 13.3GB of this, though).
With 512MB space, you can do a lot of things. That's enough space to have a good number of downloadable games (especially if they're older, cheaper titles). That's enough space to own Duke Nukem 3D, Soul Calibur, Centipede & Millipede, Hexic HD, TMNT (1989 Arcade), Galaga, and a number of other games. Trust me, I know - I just upgraded to a larger HDD and it took me all of two memory card swaps to move over all my XBLA titles.
However, with 512MB, you CANNOT install any titles. You pretty much can't take advantage of a variety of the Xbox's abilities - namely media storage and game installations.
With a 20GB HDD, you can install one, MAYBE two games. Installing games more-or-less means that they load much faster, and they don't require the disc to be spinning to run (so your DVD-ROM doesn't get worn out, and you don't have to listen to the rocketship taking off, etc). Pretty much, installing games is a wonderful feature to have, and I recommend it to everybody. I suggest to ALL players to have a hard drive so they can install games. And if you're the kind of guy that doesn't need to be playing a variety of games with your system, then a 20GB will be plenty for you.
However, I discovered that being restricted so much with what I can install is annoying. I play Left 4 Dead, GTA IV, SoulCal IV, and the Orange Box a lot (as well as a bunch of my other games on occasion, too). That's four games - too much to install on a 20GB drive. I upgraded to a 60GB, and now I can install at least seven titles to the hard drive without crowding myself on space. Perfect!
In summary:
-Go with an Arcade with the free extra memory upgrade if you don't care about load times and don't expect to need any space for media or many downloads.
-Go with an Arcade with the $20 20GB HDD if you do care about load times, but only expect to play one or two games the majority of the time and don't need to install a lot of games. Also, if you plan on needing SOME space for media but not much, this is acceptable.
-Go with a Pro (titled just "Xbox 360" on the box) with a 60GB HDD included or Elite model with a 120GB HDD included if you care about load times and expect to go beyond one or two games on a regular basis. These will allow you to have plenty of space to install a variety of games, while still having a lot of space for media and downloads as well.
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