Okay let me get this right.

I can pickpocket an npc, give them an item, and they'll use it?

So basically I could reverse pickpocket everybody some daedric armor and everyone will wear it around?

As long as what you give them is better than what they have, then they will use it.

Just know that some NPCs prefer Light Armor, so will stick with that if the Heavy Armor does not afford more protection for them with their Skill/Perk set up. Same with giving a One Handed Sword to a Two Handed Axe weilder, they may just keep the sword.

And, there is not enough Daedric Armor in the game, or raw materials, to outfit ever NPC. Someone has probably made a mod for that.

Or, you can play Oblivion and get to level 20, then every bandit will have Daedric....

So I can give all guards steel plate armor and I can see them wearing it?

I know weapons work, not sure about armor.

I've gave guards light and heavy armour (restoration loop improved) and they never equip it.

Perhaps guards work like followers regarding armor? You can give eg. housecarls the spiffiest of daedric armor, but they'll revert to their standard steel when they're not following you.

Does that work with clothes too? Im married to Ysolda and if i wanted her to wear vampire robes i can reverse PP them into her inventory and she'll wear them?

not useally, the AI looks at the Armor rating to see if they should equip it or not. So because clothing does not have an armor rating, they will rarely switch. Sometimes it seems to work when you give someone who uses a hooded robe something for their head slot and then the robes you want them to where and then either leaving the area and comback or saving and loading.

Non-Following NPC's don't equip armor or clothing you give them, I suppose this change was made to make the perk "Perfect Touch" more useful but its damn annoying because I'd like my followers, housecrals etc to wear the armor I give them while patrolling my house. In older Bethesda games it was a common practice to gain unique clothing without killing NPC's.

Or to help keep them alive by giving them better gear.