I suspect at least in part it is to move loyal customers into larger and more expensive segments over time.

Let's say the first car you get is a Polo and you really like it, so your next one is a Polo as well. Over the decades, you're being moved to making more expensive car purchase.

And to make up for that, a new smaller cheaper tier is introduced at some point. I don't care about cars enough to know when they introduced the Up, but it certainly didn't exist a few decades ago.

It always was. The US Jetta was sold as the Polo in other countries. The Golf and the Jetta were the same platform/size other than the golf was a hatchback and the Jetta a sedan.