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Side information (SI) generation plays a key-role in determining the performance of the Distributed Video Coding System (DVC). Current approaches to DVC rely on motion-compensated interpolation (MCTI) to generate at the decoder the SI which is an estimation of the frame being decoded. This work presents a novel MCTI algorithm. In the proposed scheme, motion estimation utilizes only the low-frequency content of the key frames whereas motion compensation is performed using the entire frequency range. The motivation behind this approach is that MCTI was found to provide better interpolation results in the low frequency range than in the high frequency range. An improved variable-size block matching algorithm (VSBMA) with 3-D recursive search (3DRS) is used for motion estimation. A novel motion-compensated enhancement (MCE) algorithm is also proposed. Simulation results are presented to illustrate the performance of the proposed scheme.