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ANALYSIS-Yemen's troubles test President Saleh's grip

* Saleh adept at balancing tribes and rival interests

* Yemen beset by northern revolt, southern unrest, al Qaeda

* Instability poses risks for Saudi Arabia, other neighbours

BEIRUT, Aug 31 (Reuters) - President Ali Abdullah Saleh compares ruling Yemen to "dancing with snakes", a skill he has been practising for 31 years. But the serpents are multiplying.

Then a military officer, he took power in former North Yemen in 1978 and remained president after unification with the south in 1990, winning another seven-year term in a 2006 election.

Saleh, 67, has long dominated Yemen's post-unity democratic structures via his northern tribal power base, patronage networks and support in the armed forces and security services.

"The president has very successfully manipulated a delicate, multi-faceted balance. He is brilliant at it," said a Western diplomat in Sanaa. "He better than anyone understands the ebbs and flows within Yemeni society. That's why he is still here."

Yet the outlook for Saleh's impoverished country looks grim: it faces a Shi'ite revolt in the north, separatist unrest in the south and al Qaeda zealots who last week sent a suicide bomber on a failed mission to kill Saudi Arabia's security chief.

Placed strategically on the Arabian peninsula's southern rim, Yemen sits on shrinking oil reserves and some natural gas. It faces a water crisis, deemed among the world's worst, even as its population of 23 million is set to double in 20 years.

A spate of kidnaps and killings of foreigners has smeared Yemen's image abroad, fuelling fears that its instability could endanger neighbouring states and international shipping routes.

Such fears are overdrawn, Foreign Minister Abubakir al-Qirbi said, citing "exaggerated reporting" about Yemen's woes.

"It's true we face political challenges," he told Reuters this month. "But let me remind you Yemen has gone through a number of conflicts of this sort since the (1962) revolution."

"We need to build on President Saleh's calls for dialogue with the political parties, with those resentful of the economic situation," he said, terming this the root of Yemen's problems.

Yemenis offer varying answers when asked to identify the deadliest of the myriad threats their country is up against.

"The worst thing we have is al Qaeda," said political analyst Ali Saif Hassan. "Without solving our challenge with terrorism, we cannot talk about development or anything else."

INVESTMENT CLIMATE

Salah al-Attar, who heads the General Investment Authority, said the government had made gains against the militants, but acknowledged that fighting with so-called Houthi rebels in the north and discontent in the south had worsened in the past year. "Yes, this poses a threat to the investment climate, but I am confident the government is taking positive steps," he said.

Yemen's fragmented opposition complains it is shut out of decision-making, advocating dialogue as an answer to the crisis.

"The government is in a bad situation," said Mohammed al-Sadi, assistant secretary general of the Islamist Islah party. "They cannot solve the war in the north or the southern movement or the economic or security situation."

Gregory Johnsen, a Princeton University analyst, reckons Yemeni leaders see separatist sentiment in the south, which generates most of the country's wealth, as the foremost danger.

"Overall, the threat of secession resonates much more here than the Houthi conflict," he said, adding that the Yemeni government had never felt directly threatened by al Qaeda.

"With the government preoccupied by the civil war in the north and threats of secession in south, one concern is that al Qaeda really isn't facing any pressure out in the tribal areas."

Johnsen said Saleh's balancing act was becoming harder to sustain as falling oil revenue worsened Yemen's economic plight.

"When they don't have any money, the whole system they have built up over the years starts to fall apart because they are unable to support different interest groups against each other," he said. "It's just an impossible way to do business now."

Even Saleh's critics concede he is a strong leader, with no clear alternative in view. But they fret that what they describe as systemic corruption is eroding his support and legitimacy.

"Yemen in 2009 qualified as a failing state," wrote Robert Burrowes, a veteran U.S. observer, in a recent paper.

"If it is not very soon to become a failed state in a broken society, then a reformed Saleh regime or a successor must institute needed reforms and make better use of modest gas reserves than it has of oil reserves since the 1980s."

Such warnings are nothing new, and Yemen has often seemed to teeter on the abyss without quite plunging into it.

The Western diplomat said he doubted Yemen would descend into Somalia-style chaos, but better governance was vital.

"I can see a serious humanitarian crisis here as oil wealth declines and the government is less and less able to provide the social support it has done through civil service employment, handouts and a certain amount of patronage," he said.

"But if they don't start to address the problems and if they maintain levels of corruption and self-interest, this country has the potential to get considerably worse." (Editing by Andrew Roche)

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