Volume down when booting never takes you to recovery. It takes you to hboot, and you select recovery from the hboot menu. But stock recovery isn't much use - what did you want it to do?

Once you have 2.3 there is no further update without root.

To root you will need to use Revolutionary. Go to the All Things Root forum and read the guide in the All Things Root Guide sticky post, also the rooting faq. Make sure you know what you are doing and why before proceeding - if unsure ask first.

 

Are the volume down and power keys working separately (i.e. can they turn the volume down/power the phone off)?

If they are, then you must be doing something wrong. So let's be absolutely explicit about the instructions. You power the phone off. Then you boot it while pressing the volume down key. Don't let go of volume button until the white hboot screen appears.

If the volume key works normally, that procedure should take you to hboot.

If the key is broken then let us know, but I generally recommend getting the key fixed before rooting.

 

You have to turn the phone off first. Then, when the phone is off, press the volume down key while booting the phone (so touch power to start the phone booting, don't hold the power key but immediately press and hold the volume down key. Keep "volume down" pressed until the hboot screen appears).