I really should write that post about the AD&D/Greyhawk way of handling abilities and why they suck. However, I'm going to do another spin-off of the sucky AD&D subsystems post: my thoughts on levels and level limits, inspired by the *other* Jeff Rients post.
The first thing I have to say is something I think I've said before, somewhere: I do not see "levels" as "training". I regard the whole topic of formal training as being separate from what a class is meant to represent. Anyone can learn to use a sword, spear, or shield, and anyone can learn to climb or pick locks, and anyone can learn to read maps in various languages. A 1st level character is thus, in my eyes, fully trained in the skills relevant to their background. The level title for a 1st level Fighter even reflects that idea: they aren't "fighters in training", they're "veterans", in other words someone who's had some experience fighting. What makes the 1st level Fighter different from an ordinary warrior is not training, but an unusual knack for fighting.
The Magic-User and Cleric might at first seem to be contradictions to that view. However, the added ability to prepare or memorize spells is inherently unnatural; it's something over and above what a person could train for. Thus, I'd allow anyone to learn to decipher magic and perhaps use scrolls, with a chance of failure; only a Magic-User can actually cast a spell without a scroll, with only a few words and a gesture, and only a Magic-User can create magic items.
So, I don't see levels as formal ability. Instead, I see them as a combination of intangible, general experience and reputation. A 4th level Fighter isn't a better fighter because of training in new combat tactics or learning a new weapon, but because of increased confidence, efficiency, awareness, and impressiveness. That's why their hit points increase, and why they improve at things like resisting spells; they don't train to shake off the effects of a Charm or dodge a dragon's fiery breath, they just become more wise in the ways of the world and more intuitive about impending danger. They pick up subtle clues easier, because they remember something they've seen before, and this lets them respond quicker to danger. That's also why Magic-Users improve their combat ability; do you really thing M-Us put in several hours of dagger practice every week to hone their skills?
But I said "general experience and reputation". 4th level Heroes aren't heroes just because of what they can do, but also because of what people think they can do. It's why a Lord is able to found a barony and collect taxes at 9th level, but a Superhero can't; it's not because a Superhero is incapable of clearing an 8 league radius or building a castle, but because people won't feel they owe fealty to an 8th level Fighter.
Which brings me to the level limits for dwarves, halflings and elves. A dwarf can train to be just as good a fighter as any human; a dwarf also picks up intangible benefits of experience, becoming more confident, more aware, and more efficient. But it's a human world, and humans are less impressed with a dwarf warrior than a human warrior, and are less likely to feel loyal to a dwarf who claims to be a baron. A dwarf cannot reach the heights of reputation a human can, and so cannot make it past 8th level and become a Lord over humans. In fact, a dwarf can only make it to 6th level, and a halfling can only make it to 4th level; I'd say that a dwarf is 3/4ths the height of a human, and so can only make it to 3/4ths of 8th level; likewise, a halfling is half the height of a human, and so is limited to half of 8th level. This is why I set the level limit for the Minotaur earlier today at 8th level; they aren't smaller than a human, so the only limit is that they can't become a Lord.
Elves likewise are limited to 8th level, but as Magic-Users instead of Fighters. The rationale here seems to be to prevent Elves from using the highest spell levels; they can't cast reincarnate, can't contact another plane, can't conjure elementals or invisible stalkers. Because their gimmick is that they are magical fighters, but more on the magical side, their Fighter level limit is half their Magic-User limit; a hypothetical race that was semi-magical, but more towards the mundane side, would swap limits. A mildly-magical race of dwarves would get limits of 6th level Fighter/4th level Magic-User. Using the same rationale as the M-U level limits (block access to spell levels 5+,) a hypothetical Clerical race would be limited to 6th level.
This method of setting level limits is easier than the one I proposed much earlier (subtracting levels based on special abilities.) Trying to balance racial abilities is probably a bad idea; instead, think of racial abilities as compensation for the racial limit.
As later editions added more classes, the system starts to fall apart. The Thief is problematic, but still a workable idea; it's certainly the most mundane of the classes, so it has no racial limit. The (original) Paladin also has problems, but it is expressed as a Fighter who has additional benefits from a supernatural authoriy, rather than a separate skill set. Other classes start adding specific abilities learned at specific levels, ruining the pristine vision of levels as intangible benefits instead of training ranks. And in AD&D, the vision is undermined even more, with the addition of several classes that feel very much like professions, as well as racial level limits that feel more arbitrary and unconnected to society's perception of the role.
This is why I roll back the clock on classes and try to express new classes as modifications of the main four, rather than as improvements. So, my druids don't get bonus abilities, they replace clerical abilities with druidic equivalents; my illusionists are just Magic-Users with a different spell list, not different class abilities.