Personally, I'd like to see the whole Good Vs Evil thing implemented in DF as "realistically" as possible. DF has a level of detail and a "simulation" kind of quality to it that's impossible to find in any other game, and the whole Good Vs Evil aspect should be done in much the same manner.
There are many kinds of "Evil". When debating something, one must first define WHAT that is. I have a sweet little tome called "The Book of Vile Darkness", which is a D&D sourcebook for DM's wanting to pursue an evil campaign, or fleshing out their villains. It describes a lot of different approaches to "Evil", but also makes it abundantly clear that "Game Evil" and "Real world Evil" are two very different concepts.
"Game Evil" is your run-of-the-mill dark villains burning an orphanage ("You all saw it! That orphanage attacked me!"). Evil is clearly defined, the good guys are blonde paladins, and Johnny Evilguy is a necromancer that eats testicles. This would, in my humble opinion, not work in DF. It would cheapen an otherwise brilliant game with the same stereotypical smushy, clammy, one-dimensional viewpoint typical of such classics as LoTR, Star Wars and the Smurfs.
"Real world Evil", however, is wholly dependant on perspective. If something is condemned as being evil, then that is usually the consensus of a large and powerful majority of a population (Of course, this is because humans are uniquely fitted with an inherent sense of morals, I'll get back to that). Evil is subjective. There is no good and evil, there are winners, losers and propaganda, on a large scale. On a small scale, there is the genetically based behaviour we all are programmed with at birth, which helps us integrate and form social bonds, thus aiding our survival, and the morals our society/upbringing imprints upon us. A defect in either produces a "criminal" or a severe deviation from the "normal", accepted and approved behavior.
We naturally percieve harmful, deviant and egotistical behavior as being "evil", because it is counterproductive for a society, a group, to have members that threaten the groups survival in any way. Therefore, the "criminal" is shunned, removed or killed. Of course, social interaction and morals are a lot more complicated than this, but this is the essence of why we function as a society.
DF should be no different. Dwarves should percieve themselves as "good", and other races as "evil until proven otherwise/useful". The other races should do likewise. On an individual level, it can be boiled down to "following the law of the land" or not.
Of course, in real life, things are massively more complicated than this, but I would hate to see "Game Evil" be implemented in DF just because of its simplicity. So far, I haven't noticed that Toady cuts corners whenever things get complicated. Evil is relative.
I like the usage of "Chaos Versus Order" instead. Especially considering the natural entropy of the universe. Just feels like it has more meaning, you know?
As for mankinds innate morals, I noticed someone mentioning "the train problem" earlier. You forgot the second part. Let me dwarf it up for you:
You're standing at a lever that controls magma flow. Magma is flooding the channel in front of you, but up ahead there are 5 Engravers busily working on the wall of the channel. They are all going to die, unless you pull the lever, and send the magma down another channel, where only 1 engraver stands.
Being a dwarf of sound moral fibers, you pull the switch, killing 1, but saving 5. This is the morally right thing to do, don't you agree?
But how about this: Same situation, but instead of a lever, there's a big fat axedwarf with full plate in front of you instead. You can plug the channel with said dwarf, giving the engravers enough time to get away. All you have to do is give him a little nudge. Do you do it?
Most people have a hard time explaining why they wouldn't do anything in example number two. It's basically the same thing, you kill one, to save five. Five will inevitably die, unless you kill one. So why is example two "wrong" to you? And if it's too far from home, just imagine a runaway train, a subway tunnel, and a random person instead. Same principle.
Interestingly, I find it easier to push the guy if I imagine myself as a dwarf in DF, but I find it impossible to do the same in RL. Huh... What does that tell you?