The raw password isn't actually sent to the form. Upon submitting, it takes the password field, and puts the md5 hash of it into a hidden field ('vb_login_md5_password') and clears the password field.
Take the hashed password (from the form), and set that as the password. vBulletin will then md5($hashedpassword . $usersalt) and set the result as the password in the database.
Edit: If I am reading correctly, you can change the navbar template from
HTML Code:
<form action="login.php" method="post" onsubmit="md5hash(vb_login_password, vb_login_md5password, vb_login_md5password_utf, 0)">
to
HTML Code:
<form action="login.php" method="post" onsubmit="md5hash(vb_login_password, vb_login_md5password, vb_login_md5password_utf, 1)">
to preserve the actual password. This may open up some security concerns though.