When you have Wifi enabled in the iPhone settings, every time you launch an internet app and Wifi is in the area, it will pop-up a message asking you if you want to use that wifi, and password if needed.
From then on, like if it was your home Wifi, it will auto switch to that no question. And when on Wifi, you should get normal youtube quality from the the youtube app, but I don't know if it will use the high quality option some videos have now.
As an alternative when stuck on 3G, try Truveo app. It allows you to search for podcasts and other sources like youtube. And I've tested it on some of my youtube videos over 3G and it used the high quality option the video had, and only a small pause before playing. If you have a bad 3G signal, it may stop in the middle unless you let it load for a while.
Truveo has a glitch, at least for me, that when on 3G and you launch it, it says no internet found. I fix this by loading say the Youtube app, possibly any internet app, just long enough to see it load a picture, then quit reload Truveo.
It would be great if Truveo had bookmarks or favorites.