I would pick Harvey over Watson to bat at 8 for a couple of reasons.
Firstly, Watson is, as mentioned, a batting all-rounder and his batting talent is wasted at 8. In a one-day match (far from his speciality) he would be best used from 4-6 in a similar way to Jaques Kallis. If the number 8 is required to bat it is usually going to be in the dying overs when quick scoring is called for, and although Harvey isn't much of a batsmen he can hit the ball fairly well, while Watson is not renowned as a quick scorer at all. So in terms of batting at 8 and the jobs usually done by that player, he is at least a fair choice.
As a bowler, Watson undoubtedly has more talent and wicket taking ability. However, Harvey is experienced as a specialist one day bowler and has a fairly good record in international cricket. In this side Australia is picking three quick bowlers. A specialist one day bowler who can take the pace off and try and slow the run rate at second or third change is a fairly good option, and out of the two main players in line for this position aside from Watson, Harvey is much better at this than Hogg.
The other thing people are forgetting is that in this side Australia are picking three quick bowlers, with Lehmann and Symonds to make up 10 overs between them. If the 4th bowler is another quick, it will make the over rate extremely tight. Harvey gets through his overs a fair bit quicker than Watson, and that also goes in his favour.
I don't particularly rate Harvey as a player and I do rate Watson, but I just think batting at 8 as the 4th specialist bowler in an ODI is a terrible place for Watson. I'd rather see him playing domestic cricket and getting a callup as part of the rotation system or when he has earned being picked over an established player.