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Without an external command (paste)
while read i <&3 && read j <&4
do
useradd "$i"
echo "$j" | passwd --stdin "$i"
done 3<file1 4<file2

There are a number of ways to accomplish that. Assuming there is a direct one-to-one mapping between the two input files, then you could do something like:

paste file[12] | while read user pass x;...