I'd rather physics go towards other more important gameplay things, (play Two Worlds II to see what I mean). But if its not going to detract from the other aspects, then go for it. The more realism the better.
At least certain parts of clothing have been confirmed to have physics: http://www.gameinformer.com/b/features/archive/2011/01/20/skyrim-s-dragon-shouts.aspx
Check the Nord's flowing waist cloth in the screenshot. It clearly has physics applied to it.
Cloth physics is probably not going to happen and if that's so body part physics as well.
The reason why I think it won't happen is because if this: http://www.gameinformer.com/cfs-filesystemfile.ashx/__key/CommunityServer-Components-ImageFileViewer/CommunityServer-Components-SiteFiles-imagefeed-featured-bethesda-elderscrolls-elderscrollsv/dragonshoutfeatured.jpg_2D00_1680x0.jpg
A modeler will probably have an easier time understanding this: see how the cloth seem to follow the same inclination of the legs? That could mean one of two things: 1) the cloth is rigged to the legs, so it moves along with them 2) wind is affecting it though I doubt they went to that extreme (but on the other hand they said wind does affect how the trees move so there's a small possibility that wind is indeed affecting it).
I have heard the words awesome and amazing tossed about by GI and BSG. The screenshots do not look awesome and amazing so they must be talking about the animation. How much Havok did they choose to use? We know about Havok Behavior but what about Havok Cloth and Havok Destruction?
They probably use Havok for physics and Behavior for animation blending. I hope I'm wrong, would be pretty damn awesome to use the other two as well but I don't have high hopes. Besides, it's not like it's crucial.