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By Kamran Haider

ISLAMABAD, May 12 (Reuters) - Former prime minister Nawaz Sharif pulled his party out of Pakistan's six-week-old coalition government on Monday, plunging the volatile Muslim nation back into political uncertainty.

Sharif, whose Pakistan Muslim League (Nawaz) was the second-largest member of a four-party alliance, made the announcement after failing to break a deadlock with its main coalition partner over the reinstatement of dismissed judges.

Sharif made the restoration of 60 judges sacked by President Pervez Musharraf in November the main condition for joining the coalition led by the party of Asif Ali Zardari, the widower and political successor of the late Benazir Bhutto.

Three days of talks in London between Sharif and Zardari, whose Pakistan People's Party (PPP) leads the coalition, ended on Sunday without any breakthrough.

"Our ministers will meet the prime minister tomorrow and will submit their resignations," Sharif told a news conference.

Nine of the 24 ministers in Prime Minister Yousaf Raza Gilani's cabinet belong to the PML-N, including Finance Minister Ishaq Dar, who was due to present the annual budget in weeks with the country sliding deeper into economic problems.

Sharif, who submitted his nomination papers to contest a by-election due in late June, said his party would continue to support the PPP government despite quitting the cabinet.

"For the time being, we'll not sit in opposition."

There have been high hopes that the alliance between the two main political parties would assert civilian rule in a country that has been led by generals, like Musharraf, for more than half the time since it was founded in 1947.

"It's a sad day for Pakistan," said former government minister and political analyst Shafqat Mahmood.

"The people of Pakistan wanted this coalition to take forward the democratic process, restore the judiciary and, eventually, get rid of Musharraf."

Western allies in the war on terrorism dread nuclear-armed Pakistan entering a prolonged period of political instability.

ANOTHER ELECTION?

PPP spokesman Farhatullah Babar said Zardari would return to Pakistan on Wednesday for urgent talks with the PML-N, and there were no plans for now to fill the vacated ministries, with the possible exception of the finance ministry.

Babar said the PPP was committed to restoring the judges, but had differed with the PML-N over how.

If the PML-N were to withdraw support completely, analysts say the PPP could end up inviting Musharraf's allies to join the coalition, or call for another election.

The split in the coalition, analysts say, would be welcomed by U.S. ally Musharraf, who came to power in a 1999 coup and only quit as army chief last November. The humiliating loss of parliamentary support in February polls had left him isolated.

Sharif, who was overthrown by Musharraf, wants the judges restored as part of a strategy to drive his usurper from office.

Zardari and Sharif signed a pact in March promising to restore the judges by April 30 but Sharif extended the deadline until May 12 because of Zardari's foot-dragging.

Musharraf purged the judiciary during a brief period of emergency rule as he feared the Supreme Court could rule unlawful his re-election by the outgoing parliament in October.

The case against Musharraf could be revived if the judges are brought back, but Zardari is wary of confronting the president.

The uncertainty has taken its toll on financial markets already alarmed by Pakistan's widening trade and fiscal deficits, and an annual inflation rate that leapt to 17.2 percent in April.

The Pakistani rupee <PKR=> fell to all-time lows of 69.40/60 to the dollar on Friday. It closed at 68.00/69.00 on Monday, after a fragile recovery faltered and it slid from an open around 67.00.

Karachi Stock Exchange's 100-share index <.KSE> fell 5 percent last week, but rose 0.41 percent to end at 14,286.61 points on Monday. (Additional reporting by Aftab Borka, Sahar Ahmed and Robert Birsel, and Zeeshan Haider; Writing by Simon Cameron-Moore; Editing by Valerie Lee)

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