Why does iCloud Drive hog more than half the space on my MacBook Pro hard drive?

I need to make space available on my main drive. Long ago, I chose to optimize storage on my MacBook Pro (14-inch, 2023; M2 Pro; MacOS Sequoia 15.0.1). My admittedly limited understanding of optimization is that I can use my iCloud account much as I would a local hard drive. When I want to view/edit a document that's stored in my iCloud, I double-click on in Finder, which downloads the file and opens it for editing in, say, Pages. When I've finished, I close the document and it returns to its home in the cloud. Same for photos in the Photos app.

So I find myself at a loss when my machine reports that I'm running out of space. I run to System Settings >> General >> Storage, where I see that "iCloud Drive" is hogging 264 GB of 494.38 of space on my SSD. This doesn't compute for me.

FWIW: About this Mac >> Storage reports "726.4 MB. available of 494.38."

I've got two local drives set up for backup, and both of them are telling me they can't perform their jobs, apparently because my main drive is too full. Can someone please show me how to recover some space. I'm working to move some of my stuff into local storage to free up some space, but this iCloud thing has me stumped.