Windows may well work with 512MB RAM - just - but you can't do much with just Windows and no applications installed. With only 512MB RAM there is none left for applications to use so everything will slow to a crawl (and very possibly Windows will just crash).
So that's why you need more RAM. There's more than just Windows to consider. Every program you install in Windows will need some RAM in order for it to run, and if there is no free RAM available you're in trouble.
yup, as you see for yourself it does run, however with 400MB consumed by the OS, you only have 112MB free for applications you'll run, this will force your system to handle most of the program with virtual memory (being the virtual memory a file in the hard disk it's I/O speeds are much slower than RAM), resulting in a slowed than experience.
The operating system (Windows) will use a file on the hard drive (sometimes called the page file, or virtual memory) to "extend" its memory to what it wants. But keep in mind it takes a few nanoseconds to access RAM, and a few milliseconds to access the disk. In other words your system may operate up to a thousand times slower if it doesn't have the memory it needs.