Yes you can play .avi's, but you need an app called PocketMVP to play them. The link is available in the 'Downloads" section.
WMP will only play .wmv video, and .wma/mp3 audio.
Note: Your .avi may not play well on the Ax in standard desktop format. Most seem to have been encoded at 30+ frames-per-second, which is too fast for reliable playback on the Ax. If you follow the instructions pinned in the Multimedia forum you'll be able to re-encode it to something your Ax can handle with no problems.