Pg_hba not using local setting

Hello,

Running version 7.1, have the following entry in PG_HBA.CONF:
---
Local        all        trust
Host        all        123.0.0.0        255.255.255.0
password
---

With that setting, anyone can login to the database [via our web based
interface]
WITHOUT a valid password. If I change local from trust to password then web
based users have to enter their specific password to login to the database.
But none of the backup scripts run because postgres needs a password.

Is this a bug, or do I have a misunderstanding of the local use?

Thanks,
-jim