Before this, how did third parties add functionality to Safari? For instance, the button 1Passwoed puts in the toolbar and the item it adds to the context menu for form fields?
Using InputManager[1] or SIMBL[2]. There are several things Safari Extension is not capable of due to lack of API (anything not involving webpage data) so InputManager/SIMBL-plugins are still necessary.
They used other OS X features that weren't meant for browser extensions. That means they tend to break when Safari is updated, and Apple killed a whole class of them in Snow Leopard. And they didn't work on Windows Safari, of course.