Join Date: Dec 2010
Location: Ann Arbor, MI
Bikes: 2010 Niner EMD, 2008 Surly Steamroller, 2007 Giant OCR.
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Hm, could be quite a few different things. My first instinct would be to check the spoke protector (aka pie plate), the plastic piece on the backside of the freewheel. These things are notorious for making horrendous noises. If thats what it is, I would just take it off and forget about it - as long as the derailleur is adjusted properly you don't need to worry about the chain getting thrown off the backside of the freewheel.
If thats not it, it is probably something within the freewheel or cassette body (depending on what kind of hub you have). The reason I suspect this is because you only hear the noise when the freewheeling mechanism is engaged (i.e. no drive pressure on the hub). If this is the case, its probably that you'll need to replace it.
I personally wouldn't suggest continuing to ride on it, if there is a problem within the pawls or the bearings it could produce more damage, like if the freewheel freezes causing damage to the chain and derailleur, and maybe worse. If its not the spoke protector, get it checked out.