Item Categories is your products and services categories to help you group similar items under the same group. You can define your own Item Categories, and setup a default ledger accounts, tax type, units of measure and item type. Item Types are set for 3 types, Manufactured, Purchased or Service. Manufactured and Purchased items are Stock Items, meaning you can use Manufacturing and inventory control functionality for the item. Service items are not eligible to manufacturing or inventory control.
If you want to create a manufactured Item you would have to set it to Manufactured. Then you can populate the Manufactured Item in Bill of Material.
The item categories configuration will be populated when you create new item and select its specific category, by assigning a category to an item the category configuration will populated in the new item configuration.
Item Categories are very useful in reporting and inventory analysis to group items based on your selection.