Hey guys, thanks for the great amount of responses. I just realized that in the previous post I said that the video was interlaced, while meaning to type deinterlaced, sorry for the confusion there. It is deinterlaced and thats how it came out of the camera.
Today, I also just tried exporting the file as DV, which is from my knowledge not supposed to have much quality loss at all. Well, the results were similar to the previous, the number of colors seemed much lower, you can literally see the boxes/lines as colors transition from one to another. A significant amount of detail has also been lost.
As AppleMan and Steve said, I tried adjusting the color on mpeg4 exports, that helps with the washed out issue, but the blurring effect is still there.
Serhij, when I exported the AVI, I had the option of millions of colors selected, although i know it looks as if its 256. Anyways, you guys think iMovie is just not handling the source file really well and thats causing these bad exports even in DV? I really dont know what else I can change to make this work since nobody else seems to be experiencing this.
Here are the movie properties from quicktime for source file:
http://gallery.me.com/fifaigor#100162/Picture%203&bgcolor=black