Merfolk are, like centaurs, one of those races that a very common in fantasy settings, but that seem to be present in RPGs largely because they feel like the sort of thing that ought to be, rather than because actually anyone uses them much. Mythically, they are an ancient concept, appearing in tales dating back to the very dawn of civilisation, although, naturally the details vary across time and culture.
Fantasy worlds in literature often include merfolk, although they are often only mentioned in passing. They exist, for example, in both the Narnia and Harry Potter books, and they have become somewhat more popular of late, often in horror films. Some of these versions are inspired by the relatively benign folk of Hans Christie Andersen's The Little Mermaid, while others reflect humanity's ambivalent relationship with the sea, and our perception of fish as 'ugly'. Earlier myths often do a bit of both, with a particular theme being that mermen are ugly and wont to drown sailors, while mermaids are sexy and seductive.