I can't tell if the error message is stating the exact XML, but if it is, then according to the error message, the XML it is reading from the DB is this:
Version number '1.0? encoding='
However, the SQL you pasted in your last message looks like this:
<?xml version="1.0" encoding="utf-16"?>
Have you actually looked in the be_DataStoreSettings table to see what the XML looks like. I'm not sure if the INSERT INTO statement you pasted came from the setup script, or if it contains the actual contents currently in your be_DataStoreSettings
For running BE on your SQL 2000 DB, did you convert the setup script to run under SQL 2000? Just curious since the setup script included w/ BE won't work as-is without some modifications to make it work under SQL 2000.
What happens if you change your blog provider to the default XML provider by using the web.config file that is included with BE. Do you get the same error when using the XML provider? It would be good to know if this error occurs regardless of
the blog provider, of it it's just the DB blog provider and SQL 2000 where this error occurs.