So I accidentally sold my clothes at the beginning of the game for a dagger, and I bought a new pair. but I can't figure out how to equip items. When I left-click on something in my inventory, it will move slightly, but then go back to it's slot. I assume click and drag is supposed to work, but it's not. Right click seemed to work for selling items, but I can't click and drag anything.

Open your inventory (I key) left click the item and drag the item to the proper socket on the left side ie weapon to the weapon slot etc

Left click the item and hold the mouse button down . . . drag the item to the correct socket . . =)
If you still can't get the drag to work, save and close the game . . . restart and try it again. If it still doesn't allow you to drag items . . . close the game . . . right click the game icon . . click properties . . . on the Shortcut tab . . . after the Target: text . . . add . . . -no3d -doublebuffer . . .restart and try to drag again.
Edit: everything you describe is normal, when you left click and hold on an item . . . it should attach itself to the cursor and allow you to drag it to the correct slot.

Re-reading my earlier post I wasn't really clear, when I click and hold the mouse button down, the item doesn't attach to the cursor, and doesn't move at all when I move the mouse (I have used click and drag before, I'm not that much of a noob, haha). I just wasn't sure if the click and drag system was different in this game for some odd reason.
I'll try changing the target line and see if that helps.
Thanks!
Edit: Well, I just realized clicking and dragging doesn't work at all with my mouse, even outside of the game, so this isn't actually related to Arcanum at all; it appears my mouse is messed up. Nevermind then.

Sorry, didn't mean to imply anything . . . =) . . . I too am running the game on XP with all the patches installed and have none of the problems described. Try adding those switches.
Also make sure you have the latest video drivers as that makes a difference.
Click here for ATI
Click here for Nvidia

Well, actually, just doing stuff outside the game made me realize the real problem, I can't click and drag anything, inside or outside the game. So it appears that this is a mouse problem, not an Arcanum problem. False alarm (sort of).
Thanks for your help though.

As a semi-related note: you have to be careful of the size of armor you buy/try to equip. Ogres/Half Ogres/etc need Large clothing, Humans/Elves/Etc need normal Size, and Dwarves/etc need Small Clothing

Good point . . . you can move the item to the equipment slot before it pops back to the inventory . . that could give the impression that something was wrong . . . size does count . . . =)

yeah, and the game frowns on tranvestite-ism aswell. no men in ladies clothing for you good sir! (things like armour are unisex, pretty dresses... not so much)