Morrowind is written for a 4:3 aspect ratio. As long as you have a more modern video card and modern NVIDIA drivers, this should not be a problem even if you have a widescreen monitor (16:9 or 16:10 aspect). In the NVIDA Control Panel, there's a setting that lets you set how you want scaling to work.

The default is to let your display do the scaling. Which doesn't do any good on my Asus, because it stretches all source out to be a 16:10 aspect at 1680x1050.

Another option is to use no scaling at all. Which means your smaller resolution games end up sitting in the middle of the screen with large black bars on the top and sides. Games that are 640x480 become very amusing, as you're trying to play by looking through a postcard sized view instead of using more of the screen.

The best option (for this at least) is to tell the video card to do the scaling, but to preserve the aspect ratio of the source. So for 4:3 video games, you end up with as big of a window as possible, but with black bars on the left/right.

For Morrowind, I chose to go with a 1024x768 resolution, scaled up to approximately 1400x1050 and centered on the screen. The 800x600 is too small (only shows 3 lines of icons in your inventory), while the 1280x960 size results in text that is slightly too small to read (but you can see 5 lines of icons in your inventory).

For the stuff that I record with FRAPS, I plan on scaling the 1024x768 source material down to 800x600 and using somewhere in the range of 800-1000Kbps XVid 2-pass to do the encoding. That leaves the text still legible, softens up the textures a bit so they're not so harsh, and reduces the required bit rate slightly.