I have had similar problems for several days. I cannot be positive if it started before I installed the newest Office Live Add-In, but it has definitely existed since that time. I was working without any issues prior (on an earlier Office Live Add-In), and am a home user behind firewall hardware that has not been changed in any way.
I am running Windows XP Pro SP2, Office 2003 SP3, and IE 6 SP2 (6.0.2900.2180)
The sign in process works without a problem. OLW loads, sometimes with a full screen, sometimes with just toolbars and nothing in the main pane. It then immediately hangs and becomes unresponsive.
Interestingly enough, during this time, other Windows Explorer windows may also hang. For example, if I try to double-click on an Excel doc in a folder on my desktop, that Explorer window ceases to respond, and the document does not open. While it is hung, I can open the exact same document from within Excel using File-Open without issue.
IE becomes responsive after 10 minutes (timed). [At the same time, the Excel document I tried to open from Windows Explorer will open immediately.] I am also getting the same "2 items remaining" error posted above, but with the number 753 at the end. I know I got this yesterday, but I do NOT believe it has been happening since the start of these freezing problems.
Halting the download (hitting ESC) will immediately bring me to my OLW, which is fully functional and responsive for a LIMITED TIME. I am able to view documents within OLW and open documents in their native application for approximately one minute. IE then hangs again.
After waiting another 10 minutes (timed), IE again responds, this time with a fully loaded screen with another download error in the status bar:
(2 items remaining) Downloading picture http://render.officelive.com/images/OL/Merchandising/en/us/OLWorkspace/Workspace/Editor
Again, it is usable for one minute before hanging again. Rinse, and repeat.
OLW works fine in Mozilla Firefox (2.0.0.14). Deleting IE temporary files hasn't improved the situation. There are no Javascript errors. I can run the trace program you suggested. Is it recommended to run that on a clean boot with no other apps?