The project format is set for NTSC progressive

That's not on - your camera shot the material in interlaced so in order to retain max quality, your DVD should be created using an interlaced setting too.

Questions:

1. Was the material shot on the actual camera you are using to play-back/capture with?

2. Is is in fact a NTSC camera or are you simply trying to create a NTSC project?

3. Are you using the Dazzle because you don't have a firewire port on the computer? - if so I think your results are about what could be expected via the Dazzle

4. If you are in fact capturing via the Dazzle and an analogue feed from the camera, what setting are you using during capture?