DreamScene feature in Windows Vista allows to set any video as desktop background, for the sake of wallpapers slideshow DreamScene feature has been removed in Windows 7.  You can add  DreamScene feature in Windows 7 by installing free utility DreamScene Seven.

set video as desktop background in windows 7 with DreamScene Seven

DreamScene Seven is portable, download and click “Install DreamScene”.  Make sure you’re using Aero theme for DreamScene to function. Right click on  any video clip ( in WMV, or MPEG format) and select “Set as Desktop Background”.

You can pause or play DreamScene by right clicking on the Desktop. Want some video clips (MPG or WMV format) ? visit DreamScene Gallery.

DreamScene Seven is freeware and portable.

Download DreamScene Seven