Keychain is a utility in OS X that stores passwords for all different sites for you. What that message means is that now, when you go somewhere that needs a password, it will no longer auto-fill for you and instead prompt you for your "Keychain" password. Once your Keychain is unlocked, it will be able to fill out passwords for you.
As far as reinstalling the OS, do you have another computer? You can reinstall over the old system and not mess with your files, but I wouldn't advise doing it unless you had a backup of the most important things you need.