There are two reasons as to why the images in iMovie look so pixelated on the computer.
First, the NTSC video standards is rather low in resolution. (648 by 486 non-square pixels) and it has a smaller colorspace. What looks small and degraded on the computer monitor will look just fine on a television. Burn a DVD and see for yourself, I was amazed how differnt footage lookes on a 52inch screen tv screen when compared to the quality of video on a computer monitor; much more fluid movments and no pixeliation either. Its why most video editors will have a TV hooked up to display video output, its just not the same on a computer screen than on a television.
Second; the footage shown in the iMovie app is actually displaying a low quality rough of the video. You can enable high quality DV playback in the quicktime Settings. The settings in quicktime affect iMovie because it uses the quicktime rendering engine, crazy way to make the change, but that’s how it is (http://www.digitalcamcordernews.com/2006/07/high-quality-dv-mov-playback-in-quicktime ). You may notice a bit of a performance hit with the change in this setting. Also note, that this change will have no effect on the final output of the DVD footage, just how its displayed in iMovie.
Its been a few years since I’ve used iMovie & iDVD to master a DVD, if you are using iMovie ’08, Apple has a help doc how to do the exact thing you are asking about; an autoplaying looping slideshow. (http://support.apple.com/kb/HT1091 ).
sidenote How I’ve prepped images in photoshop for video is to scale the image down to 1200pixels on the largest side (this is an arbitrary number, mostly because the images get down-sampled to Standard Definition resolution, but I want some wiggle room if I want to blow up the image and to make the video rendering faster than if I were using the original image resolution) change the pixel aspect ratio to “D1/DV NTSC” (this is assuming that the output is 4:3 SD video, not nessary if you are using iMovie, but FCP does require this). I then up the USM with a big radius for local contrast, up the saturation by 8~11 points, then I apply the NTSC color video filter and finally save it as a new tiff (layered tiff is ok, it just takes up more space) into a new folder and your images are ready for iMovie. Better yet, make what I did into a photoshop action and save a ton of time!
I hope that’s helpful!