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UPDATE 2-Germany's Merkel to Cameron: I can't satisfy all Britain's EU wishes

* Merkel in Britain for high-profile one-day visit

* Cameron has pledged EU renegotiation, membership vote

* Merkel wants a strong UK with strong voice inside the EU

* Cameron needs Merkel if his reform drive is to succeed

LONDON, Feb 27 (Reuters) - German Chancellor Angela Merkel told Prime Minister David Cameron she was not prepared to promise fundamental reform of the European Union for London's sake, but said the bloc did need some changes and that his country should not leave it.

In a speech to both houses of Britain's parliament - only the third time a German leader had spoken there since World War Two - Merkel, the leader of the EU's most powerful state, ruled out the prospect of a far-reaching overhaul of the bloc's treaties, signalling she was open to modest reforms only.

"Some expect my speech to pave the way for a fundamental reform of the European architecture which will satisfy all kinds of alleged or actual British wishes. I am afraid they are in for a disappointment," Merkel said in English.

"Others are expecting the exact opposite and they are hoping that I will deliver the clear and simple message here in London that the rest of Europe is not prepared to pay almost any price to keep Britain in the European Union. I am afraid these hopes will be dashed," she added.

In London for a one-day visit, she was speaking at a time when uncertainty about Britain's future in the EU is rising because of a promise by Cameron to offer Britons an in/out membership referendum, if he wins a national election next year.

Under pressure from eurosceptics in his Conservative party and from the anti-EU UK Independence Party (UKIP) ahead of European elections in May and next year's national vote, Cameron has promised to try to reshape Britain's EU ties before any membership referendum.

He has not spelt out all the reforms he wants, but has made it clear he wants to curb freedom of movement for poorer new EU member states, clamp down on pan-EU "welfare shopping", cut swathes of EU red tape, and improve competitiveness.

BALANCING ACT

Switching between her native German and English, Merkel delivered her speech in one of the British parliament's most ornate rooms with Cameron and the rest of the country's political elite sat in the front row hanging on her every word.

Hers was a delicate balancing act: To be seen to be giving Cameron, a centre-right ally, some support in his politically fraught quest to claw back powers from Brussels, while making it clear that her backing went only so far.

Dressed in a trademark trouser suit with a blue jacket, Merkel praised Britain for its role in safeguarding freedom in World War Two, for its pivotal role in transatlantic relations, as an important German ally, and a vital member of the EU.

"We need a strong United Kingdom with a strong voice inside the European Union. If we have that we will be able to make the necessary changes for the benefit of all," she said.

She indicated she would back Cameron's desire to clamp down on abuse of the EU's freedom of movement rules when it came to welfare benefits, partially back his drive to rein in the European Commission, and that Britain would have a chance - along with everyone else - to submit proposals for reform once deeper integration of the euro zone had happened.

"All of the member states will then have to submit all of their policies on Europe, be it on energy, climate, shaping the single market, or foreign trade to scrutiny (to see) if these policies contribute to bolstering euro's economic strength."

In comments that will please Cameron, who later called her speech "excellent", she said she too thought that EU red tape should be cut, that unnecessary EU laws should be junked, and that the EU principle that member states do things at national level where that makes more sense should be respected.

Merkel's visit is seen as a test of how far Cameron is likely to get in persuading the rest of the bloc to sign up to his reform ideas since Germany is the bloc's most powerful state and its biggest economy.

LIMITED BACKING

Cameron has so far garnered only limited backing for his plans among other EU states and though encouraging in places some saw Merkel's speech as a sign he would struggle to deliver any radical change.

"The chancellor sent an unmistakable message to London: We hear you and we're with you, tinkering and tailoring yes, but upending and overhauling the European treaties, no way," was how one EU diplomat summarised her speech.

Douglas Alexander, the opposition Labour party's spokesman for foreign affairs, was also sceptical. "Sense that Chancellor Merkel's speech today offered much less to David Cameron than he had hoped or expected," he said on Twitter.

British Foreign Secretary William Hague this week described Germany as London's "most important partner" when it came to seeking EU reform and the lavish reception Merkel is getting reflects that.

After her address to both houses of Britain's parliament, Merkel is due to have lunch with Cameron in his offices and then take tea with Queen Elizabeth.

That pomp and circumstance contrasts sharply with an Anglo-French summit last month when President Francois Hollande and Cameron held a news conference in an aircraft hangar before sharing a low-key pub lunch.

Hollande poured cold water on the prospect of EU treaty reform saying it was not a French priority.

Merkel has said repeatedly that she does favour EU treaty change. But she sees it as much more limited in scope than Cameron and primarily as a way of deepening euro zone integration.

"Only through close, binding coordination of economic policy can we avoid, in the longer term, suffering another deep crisis in the euro area. For this I believe we need to adapt the legal foundations of the monetary union in a limited, targeted and speedy way to stabilise the union for the long term," Merkel said.

Analysts say it is possible she might agree to a few British opt-outs when the treaties are eventually opened.

More broadly, her Christian Democrat party (CDU) wants a stronger EU political union, however, and she did not indicate that she would back Cameron's desire to give national parliaments a formal veto over European Commission proposals.