In “The Pygmies of the Far North” (Journal of World History, vol. 19, no. 1, 2008), Seaver writes:
No explanation for the name would have been needed because Skræling(j)ar was a direct Old Norse translation of Pygmæi or Pygmies and referred specifically to a member of the monstrous races the authors of antiquity had assigned to the extreme edges of the world. Besides conveying small stature, the expression connoted inferiority such as feebleness and demonstrable “otherness”; like everyone else at the time, the Norse considered themselves the desirable standard by which to judge other people. Their translation of Pygmæi as Skræling(j)ar is as precise as the vernacular kringla heimsins, which the saga writer Snorri Sturluson (1179 –1241) substituted for orbis terrarium—the world’s orb. Skræling(j)ar were the small people who constituted the least threatening and most evolved of the monster races in the medieval Christian canon, and they lived on the far northeastern fringes of the oekumene as perceived by educated Europeans.
While this is interesting, Seaver’s case for saying Skræling is a direct translation of Pygmy comes down to two pieces of evidence. The less convincing is Mercator’s letter of 1577 to John Dee, in which Mercator refers to the Arctic peoples as “Pygmies,” and Seaver’s inference from it is that the clerical writer of the lost 1360 book Inventio Fortunae Mercator referenced had met a Norseman named Ívar Bárdarson, whom she assumes had translated Skræling as Pygmies in official Latin correspondence: “When the friar and Ívar exchanged gifts in Greenland, their discourse would very likely have touched on these natives, and their conversations would certainly have taken place in Latin, in which any reference to Skræling(j)ar on Ívar’s part would have had to employ the word Pygmæi.” But, logically, this backward reasoning does not tell us that Pygmy was the origin for the word Skræling but rather that Pygmy was a “retronym” applied to a possibly preexisting word Skræling when translating back into Latin.
More convincing is the claim that medieval literature makes plain that the word Skræling was used as a pejorative to suggest small size, which Seaver combines with the established fact that the Norse named new things after what they perceived to be their defining characteristic, thus suggesting an origin in translating Pygmy to describe small Native peoples. Obviously, this would be stronger if a clear etymology was available to show a direct relationship between the word and any other directly referencing size, or, better yet, cubits. It is not inconceivable that the Skrælings were named for their skin clothes—their defining characteristic—and, after scholars (wrongly) identified their land with Pliny’s easternmost India, retroactively had their name applied to the Pygmies.
It's an interesting idea, and one I'd like to know more about. There's clearly a relationship between Classical Pygmies and how the Norse imagined their Arctic discoveries, but exactly what I think is still open to interpretation.
Fun fact from the article: Seaver writes that C. C. Rafn and Finn Magnusen’s 1837 compilation Antiquitates Americanae started the myth that the Newport Tower was a Norse church. That one still hasn't gone away. [Update: I searched the Antiquitates and couldn't find any mention of the Tower, not least on pages 404-405, which Seaver cites. I did find an extensive discussion of it in Rafn's sequel, the 1839 Supplement, which I presume must be the actual source.]
Second fun fact from the article: Despite the fact that the oldest chronicler of Norse expeditions to Greenland, Adam of Bremen, stated explicitly that the world was round (“Nam propter rotunditatem orbis terrarium…”—“On account of the rotundity of the earth…”), Victorian scholars were so convinced that medieval people believed in a flat earth (because their maps were flat!) that they simply ignored Adam and reinterpreted his writings in light of a “flat” earth. Science!