If you're not interested in creating screencasts, you should ignore this post. It's only here in case someone searches for a solution to this specific problem.
OK, so I thought I'd cracked the nut of how to use Final Cut Express for creating screencasts. Turns out there was a bit more to it than that if you want good results.
It isn't good enough to simply match codec, frame rate and pixel count all through your project (although that's a good start). The manual says (on Page 203) that "You can import any QuickTime-compatible media files into Final Cut Express HD, but to avoid rendering, your media files need to match your sequence settings". Unfortunately I've found that this isn't always the case. I applied these settings to my FCE project: HDV 720p30, 1280 x 720, 29.97 fps, Apple Intermediate Codec; and also applied these settings to the incoming file, and it still insisted on rendering them. There's some fancy stuff you can do with Final Cut Pro, but alas I have the poor man's version.
So the first part as already discussed is to create something as close to this as possible. I've played with Snapz Pro X ($69) and iShowU ($20) for capturing the screencast, and there isn't much to choose between them in terms of output quality. Snapz Pro X won't capture video at 29.97fps (which is needed to match the above settings), and iShowU does, but FCE still tells me that both outputs still need rendering. I'm sticking with Snapz Pro X because it's easier to use and I've already paid for it. Make sure the quality is "Best" when you're exporting, H.264 is fine.
But here's the new trick. When you've imported your footage into Final Cut Express, and checked it in the viewer to make sure it's retained it's integrity, drag it into your timeline and then click it once to select it. Then select Sequence > Settings > Render Control, and uncheck the boxes for Filters, Frame Blending and Motion Blur before you render your selection. If you've been through what I went through, this will be the first time that rendered content looks nearly pixel perfect. Almost perfect, not quite, but good enough for me! If you find a way to make it pixel perfect using the above tools, please let me know...
The rest of the process is straightforward. Export from FCE using Quicktime Conversion, make sure it's set to the same settings as the project, and make sure Quality is set as "Best".
Hope someone out there finds this helpful!
And again I'd just like to say that Final Cut Express should do this seamlessly out of the box. Screencasting mixed with other footage shouldn't be this hard.
UPDATE 01/04/08: I've just found an easy way to convert files to a specific frame rate, pixel count and aspect ratio - have blogged about it here.