Compressing DV camcorder footage and preserving motion smoothness (interlacing?)

I have a lot of DV format footage from a digital 8 video camcorder. I’ve been trying to compress the files because they’re pretty beefy. VLC reads the video stream as:

CODEC: DV Video (dvsd)
Resolution 720x480
Frame Rate: 29.970

I’ve been trying to use virtualdub to encode it to an xvid codec using those same settings - and it comes out alright, but the motion is noticibly less smooth, as if the frame rate were different, even though the media player reads both the original and compressed file as being 29.970 frames per second.

I don’t really understand what I’m doing, but is there some sort of interlacing issue going on? Does the original footage actually run at 59.94 fps and converting it to 29.97 progressive loses some information?

What can I do using a free encoder (virtualdub, windows movie maker, whatever) to preserve the smoothness of the motion of the original video?