The two sides hope shortly to be able to issue a joint framework document, and senior politicians from both parties have expressed delight at the progress of secret discussions, which have been taking place in London over the past few weeks and are to resume on Wednesday.
In what will be seen by some of their activists and political opponents as a move towards creating a formal alliance, with echoes of the ill-fated Lib-Lab pact that propped up the Labour government in the 1970s, the discussions have already produced agreement in several key areas.
Robert Maclennan, the Liberal Democrat president and head of their negotiating team, said "We are all agreed" on four key areas:
n Introduction of a Bill of Rights, beginning with the incorporation of the European Convention on Human Rights into British law.
n Passing of a Freedom of Information Act.
n Reform of the House of Lords, including the scrapping of hereditary peers' voting rights.
n Reform of procedures in the Commons to allow greater time to debate legislation and to make Question Time more meaningful.
Both sides are close to agreement on Welsh devolution, with a recommendation for a senate for the principality, but no separate tax-raising power. They are expected to settle on a system for establishing the membership of the senate, the "additional member" system - a compromise between first- past-the-post and proportional representation.
Talks are due to resume on 8 January and again on 14 January. The thornier subjects of Scottish devolution and electoral reform of the Commons are also still to be discussed. Even if no agreement is reached on the latter areas, progress so far promises the most radical constitutional shake- up since the House of Lords had its powers curtailed in 1911.
Labour is represented by Robin Cook, Donald Dewar, Jack Straw and Ann Taylor. The Liberal Democrat side comprises Mr Maclennan, Nick Harvey, Jim Wallace and Lord McNally. On Wales, Ron Davies, the Shadow Welsh Secretary, and Alex Carlile, the Liberal Democrat Welsh MP, have been drafted in.
On the Lords, Lord Richard for Labour and Lord Jenkins for the Liberal Democrats have been consulted.
Michael Steed, the University of Kent expert on electoral reform, has also been involved, along with John Macdonald QC and Lord Plant.
The only outside body to have had any input has been the charitable think-tank the Constitutional Unit. Pressure groups such as the Electoral Reform Society and Charter 88 have not been invited to participate. Neither have the Conservatives. "They were not asked to be party to the discussions because clearly they are not interested in reform," said Mr Maclennan.
The talks have been taking place in the Commons and at an undisclosed location away from Westminster. "We did not want to operate in a goldfish bowl,' said Mr Maclennan about the secrecy surrounding the meetings, which have no parallel in modern British political life.
Both sides are confident of being able to present a document for approval by their party leaders, Tony Blair and Paddy Ashdown. Another Liberal Democrat source said: "I think there will be an agreement in January." A Labour MP close to the talks added: "Just having sat around a table with these people has made a big difference."
Even if it were to win the next election by a landslide, and could drive through the necessary legislation, Labour wants to be seen to be embarking on a new spirit of co-operation. If Labour were to win by a small majority, it would need Liberal Democrat support to carry its measures through. For the Liberal Democrats, the joint committee with Labour represents a chance to be seen to be taken seriously, and to realise long-held desires for constitutional reform.
Senior sources on both sides yesterday played down the prospect of a complete agreement, with Scotland and proportional representation the sticking points. But one possibility is that the two parties will embrace electoral reform for the European Parliament as an alternative joint measure.
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