What is the right definition of the Picard group of a commutative ring?   This is a rather technical question with no particular importance in any case of actual interest to me, but I've been writing up some notes on commutative algebra and flailing on this point for some time now, so I might as well ask here and get it cleared up.
I would like to define the Picard group of an arbitrary (i.e., not necessarily Noetherian) commutative ring $R$.   Here are two possible definitions:
(1) It is the group of isomorphism classes of rank one projective $R$-modules under the 
tensor product.
(2) It is the group of isomorphism classes of invertible $R$-modules under the tensor product, where invertible means any of the following equivalent things [Eisenbud, Thm. 11.6]:
a) The canonical map $T: M \otimes_R \operatorname{Hom}_R(M,R) \rightarrow R$ is an isomorphism.
b) $M$ is locally free of rank $1$ [edit: in the weaker sense: $\forall \mathfrak{p} \in \operatorname{Spec}(R), \ M_{\mathfrak{p}} \cong R_{\mathfrak{p}}$.]
c) $M$ is isomorphic as a module to an invertible fractional ideal.
What's the difference between (1) and (2)?  In general, (1) is stronger than (2), because projective modules are locally free, whereas a finitely generated locally free module is projective iff it is finitely presented.  (When $R$ is Noetherian, finitely generated and finitely presented are equivalent, so there is no problem in this case.  This makes the entire discussion somewhat academic.)
So, a priori, if over a non-Noetherian ring one used (1), one would get a Picard group that was "too small".  Does anyone know an actual example where the groups formed in this way are not isomorphic?  (That's stronger than one being a proper subgroup of the other, I know.)  
Why is definition (2) preferred over definition (1)?  
 A: 1) About the second definition:
$\alpha$) It is not true  that for an arbitrary ring a) is equivalent to c):
Indeed Bourbaki in  Algèbre commutative, Chapitre II, Exercices §5, 12) c)  exhibits a ring $B$ and a projective module of rank $1$ over $B$ which is not isomorphic to an invertible fractional ideal of $B$. This does not contradict Eisenbud's Theorem 11.6 because $R$ is explicitly supposed noetherian there.
  $\beta$) It is also not true that b) is equivalent to c):
Take $R=\mathbb Z$ and $\mathbb Z\subsetneq M=\bigcup \frac {1}{p_1\cdots p_i}\mathbb Z\subsetneq \mathbb Q$ where $p_i$ is the $i$-th prime.
 Then for all prime $\mathfrak p\subset \mathbb Z$ the $\mathbb Z_\mathfrak p$-module $M_\frak p$ is free of rank $1$, since $$M_{(0)}=\mathbb Z_{(0)}(=\mathbb Q) \quad  \operatorname {and}\quad M_{(p_i)}=\frac {1}{p_i}\mathbb Z_{(p_i)}$$ However the $\mathbb Z$-module $M$ is neither finitely generated nor projective (over $\mathbb Z$, projective=free)
2) I think the only reasonable definition of $\operatorname {Pic(R)}$ valid for any commutative ring is to define it as the Picard group of the affine scheme $X=\operatorname {Spec}(R)$.
As is the case for any locally ringed space $(X,\mathcal O_X)$ the Picard group consists of isomorphism classes of locally free $\mathcal O_X$-Modules of rank one.
This is exactly the definition used with much success for general, non-affine, schemes but also for topological spaces, differential manifolds, etc.  
3) In our special case $X=\operatorname {Spec}(R)$ the definition in 2) translates in purely  algebraic terms to:
$\operatorname {Pic(R)}$ consists of isomorphism classes of $R$-modules $M$ such that there exist finitely many elements $f_1,\cdots,f_n\in R$ with:
$\alpha$)  $\sum Rf_i=R$
$\beta$)   $M_{f_i}$ is a free $R_{f_i}$-modules of rank $1$ for all $i$.  
These modules are called locally free of rank one.
Remark: $\beta$) implies that locally free modules of rank one  are finitely generated over $R$, since "finitely generated" is a local condition   
4) The locally free modules of rank one defined in 3) can also be characterized as the  modules $M$ over $R$ such that  equivalently:
 i) The module $M$ is finitely generated, projective and for all primes $\mathfrak p\subset R$ the (necessarily!) free $R_\mathfrak p$- module $M_\mathfrak p$   has  rank $1$
ii) The module $M$ is finitely generated and the modules $M_\frak m$ are free of rank $1$ over $R_\frak m$ for all maximal ideals $\mathfrak m\subset R$
iii) The canonical $R$-linear map $M\otimes_RM^*\to R:m\otimes \phi\mapsto\phi(m)$ is bijective
Note that these are pleasant algebraic characterizations, but the conceptual definition is that given in 2) and 3).  
Edit: WARNING
The confusion is made worse by Bourbaki's unfortunate decision to define  a projective module of rank $1$ as a finitely generated module $P$ for which $M_\mathfrak p$  is free of rank $1$ over $R_\mathfrak p$ for all primes $\mathfrak p\subset R$.
As my example 1) $\beta$) shows, omitting to require that $P$ be finitely generated [as is done in Pete's condition (2) b)] means accepting modules which aren't even projective, and which  don't satisfy (2) a) nor (2) c) of the question.  
A: There is no difference. If $M$ is locally free of finite rank, then $M$ is of finite presentation (and projective).
Take a partition of unity $f_1,...,f_n$, such that $M_{f_i}$ is free over $R_{f_i}$. Since $R \to R_{f_1} \oplus ... \oplus R_{f_n}$ is faithfully flat, it suffices to show the properties for $M_{f_1} \oplus ... \oplus M_{f_n}$, which is very easy.
Definition (2) is prefered because it reveals the geometric content: classification of line bundles.
A: Although this question has already been answered, I would like to point out that the assertion also follows from a little bit of category theory (which does not seem to be discussed in the Bourbaki reference). 
Claim: Let $R$ be any commutative ring, and let $M$ be an $R$-module which is invertible for the tensor product. Then $M$ is finitely generated and projective. 
Proof: The functor from $R$-modules to $R$-modules given by tensoring with $M$ is an auto-equivalence. Since being projective is a 
property completely internal to the categorical structure, it is preserved by auto-equivalences. In particular, since $R$ is projective, so is $R \otimes_R M \simeq M$. 
Similarly, one sees that $M$ is finitely presented, because the finitely presented $R$-modules are exactly the compact objects of the category. 
(More generally: Given any symmetric monoidal category, if the unit object satisfies some categorical property, then so does any invertible object. This is useful in other contexts. Example: any invertible object in the stable homotopy category has to be a finite spectrum, because finite spectra are the compact objects; from here it's not too hard to conclude that the invertible objects in spectra are the spheres.)
A: For what it's worth, I think in Bourbaki's Algèbre Commutative, this is chapter II, section 5.4 (or so), but I don't have a copy in front of me. (Pete confirms that it's II.5.4, Theorem 3.)
