I think that's a bad idea because you are using a CCD sensor, and you are limited in ISO if you expect your images to come out with as little noise as possible. You're giving the camera the ability to introduce noise instead of setting up the camera to get the best shots possible with the lowest ISO possible.
I still don't understand. For a certain situatiion, I know what kind of shutter speed and aperture I want to shoot at, I'll let my camera determine wahat ISO I'll need to expose that picture correctly. That's all. For example if I'm shooting at night, I'll put the lowest aperture and and whatever shutterspeed I need to freeze actions or what not and let my camera determine whatever ISO I need to expose my picture at whatever exposure compensation I set at. Yes, for the auto ISO purpose, you can set the exposure compensation in manual mode. If I decide that I don't don't need a high shutterspeed, then my camera would know that and not turn the ISO up so high. I think it's a very useful tool. Putting something on apeture prioirty or shutter priority is in my opinion could lead up too much more volatile result as shutterspeed and aperture have much more of an effect on the photo then ISO would .
Like I say, the Auto ISO function let you tailor the exposure of different photos while still keep what ever shutter speed and aperture that you have already set. Of course you can go around shooting manual but at times that's just not practical. Beside, auto ISO let give you option to shoot at ISO in between stop that's not otherwise possible on the D40. I have seen prints from 1600 ISO file from the D40 and as long the exposure is correct, the prints are beautiful. If you pixel peep, well, I still think 1600 ISO is okay, nothing too bad.