Digital image stabilization (DIS) is an elementary function of hand-held video-capturing devices. In conventional combination, video encoding is performed after DIS. However, both DIS and video encoding have the same time-consuming unit: motion estimation (ME). Thus, a novel methodology for fusion of DIS and video encoding is proposed in this paper to reduce the computation of ME and produce coding-compliant motion vectors (MVs). That is accomplished by re-using the MVs of DIS and the variable block sizes defined in H.264; thus, macro blocks (MBs) with MVs need not to compute MVs again. In addition to the MBs used in DIS, the rest area f a stabilized P frame is partitioned into many blocks by means of the variable block size as defined in H.264. By using the proposed method, the saving in chip area will result in great reduction of power and cost. According to experiments, it is approximated that 25% of the ME can be eliminated.