<p>I am currently using Rails 2.1.0 and want to upgrade to Rails 2.1.1. After issuing the following command </p>

<pre><code>gem update rails
</code></pre>

<p>I suppose that I need to change this line </p>

<pre><code>RAILS_GEM_VERSION = '2.1.0' unless defined? RAILS_GEM_VERSION
</code></pre>

<p>in environment.rb</p>

<p>What other actions should I take to ensure that my application is using the latest version? Are there some other files that need an update?</p>

As far as I know, that right there defines what version of rails your application as a whole will use. I know for a project I'm in right now I had to override that to 2.1.1 to work on my VM because I had installed the latest, and had not specified the 2.1.0 as required by the project.
The biggest thing you have to watch out for is plugins and extensions that may override this setting, as well as incompatibility that will likely arise from changing versions.
Also there are some known issues with 2.1.1, unless there is a feature you absolutely need now, you may want to wait.