How does WordPress Parent-Child Taxonomy actually Works?

First, a clarification- you have one taxonomy, which contains parent and child terms.

When you associate terms to a post, only the terms you select are explicitly associated to that post.

Taxonomy terms are stored in their own table, and parent and child terms are connected to each other in this table.

This is how WordPress can query for posts that have terms that are children of other terms, it gets the children of that term from the term table, and looks for posts that also share those children.