Its a mismatch of playstyles. If you were running a simple character-challenge-oriented OD&D crawl then there'd be no reason for the players to have any authority. It was a very straight setup that was barely different from a wargame. The players were up against the dungeon environment, represented by the DM. There was no interpretation by the players, they were the enemy. The DM (because someone had to) had the job of playing the monsters and deciding what happened ENTIRELY. That might conflict with being the enemy, but that was the one and sole measure of a good DM, could he at least provide a good illusion of non-partisanship, all the while deciding whether or not the PCs lived or died in his giant cunning death-trap.
In this sort of game there's no point in having players with moral authority. They have NO authority of any sort. The whole game is ABOUT trying to wrest control out of an uncertain and unknown situation, by slaying the monsters, gathering the treasure, disarming the traps, and going up in levels. Whatever you do to accomplish that is just playing the game. Its PURELY a game, with some RP thrown in for hahas. OF COURSE the paladin player would lie, cheat, or steal if there wasn't a rule against it! Just like you're going to put the king in check in chess unless there's a rule against it. Its THAT SIMPLE.
Now, its rare to find people who play literally in that basic an old school mode anymore, and most never did 100%, not even Gygax. That WAS the essential mentality of the game though. It was always a game first, and it was about exploration and control, and RP was there as an element, but nobody was trying to create some fantastic story. There was no going on about meta-game or any of that stuff. The players just played their 'side' in the game, pure pawn stance. Thus thieves had to be non-good, and paladins had to be LG etc. Just a rule of the game. Even after it was largely outgrown it has lingered, and you have to acknowledge that there ARE people around that want to play just that game and want DDN to BE just that game and have no use for paladins without alignment restrictions.