First thing is whether Dwarf or Hobbits are Humans or not -
According to me any species which can have sex with human and can reproduce should be considered as human, an Horse can mate with a donkey, but since their offspring are sterile mules, horses and donkeys count as separate species.
So with the above logic pairings between Hobbits and Human are clearly possible and fruitful so Hobbits should be considered as humans.
Now question is why are they so different then us -
Because they are not Homo-Sapience,
Some research indicates that there was substantial cross-breeding between our species and Neanderthals/Denisovans/Homo floresiensis in the past that mutated with our genes and result sometime the other side of the species i.e. less height, different look etc.
