A weird thing happened yesterday with regards to the temp sensor on the instrument panel. It suddenly started flickering all over the place and then stopped working all together! It now shows 0 all the time and sometimes it will start flickering then work for a few minutes then stop again, I presume its and earth fault but have no idea how to resolve it, i am also worried could the engine overheat when it shouldn't now? can anyone please help, its a '88 260e w124.

Check the single wire sensor around the thermo housing somewhere.. this is the temp thermistor sensor and it completes to ground. If open, it is faulty or the wire connection is bad..
Check sensor w/ohm meter..
If both checkout , it is the gauge

http://catalog.eautopartscatalog.com/mercedesshop/sophio/wizard.jsp?partner=mercedesshop&clientid=mercedesshop&baseurl=http://catalog.peachparts.com/&cookieid=1A70KFNW8&year=1988&make=MB&model=260-E-001&category=P&part=Water+Temperature+Sender

Diagnose is actually very easy. If you got a DMM, just measure the ohm between the tip and the brass base. Arthur posted a calibration chart before. If you got over 1 k ohm at RT, that unit is bad. I got mine for $20 including shipping. To avoid making a mess, drain 1/3 of the radiator frst. teh replacement took me 5 minutes or less.