A late autumn afternoon in Tbilisi. A group of middle-aged men, neatly dressed in yellowing shirts and fading suits, are playing backgammon under the trees in a square in the Armenian quarter. Several have well-groomed moustaches. The atmosphere is jovial: Alexander, a proud man in his late fifties, dominates the group with his loud laughter. Were it not for the derelict shells of buildings behind them, this could be any Mediterranean capital.

The war with Russia last August did not come near the capital, but this part of Tbilisi looks bombed out all the same. What happened? It's just decay, they say. Much worse than during the Soviet era. "Just look at the state of the buildings," says Alexander. "It was never like that before. No one has work." He used to run a factory that made mechanical parts, but is now one of the long-term unemployed. He is an educated man, proud of his flawless Russian (Georgian is his native language). In Soviet times he con sidered himself middle class. Now he feels poor and humiliated.

Meanwhile, his country has backed itself into a corner. On Tuesday the second round of international talks on security in the Caucasus opened in Geneva; discussions were described as "difficult" and the Tbilisi-Moscow relationship is as tense as ever. But a change of leader in Washington might make a difference: President Saa kashvili will soon have lost his chief ally in the west, George W Bush. A populist and opportunist, Saakashvili is dismissed by many Georgians as too hot-headed, and organised protests are planned against him.

After ousting Eduard Shevardnadze in November 2003, Mikhail Saakashvili, now 40, helped to attract millions in foreign funding. He was perceived as being a pro-western reformer and democrat. The Americans gave $22m during the war in August and promised another $1bn in September. That came on top of $1.6bn in outside investment in 2007, much of it from the US, a 40 per cent increase on the previous year. The foreigners are to blame for this whole mess, Alexander asserts, because they prop up dodgy regimes. "Our government is more corrupt than any other in the world. And the US and the UK support them in their corruption."

The American money has not benefited the likes of Alexander. To reach the capital's Armenian quarter from the international airport there is only one route: straight down President George W Bush Street, the only pothole-free highway in town, festooned with pictures of a waving Bush. But Alexander can't afford to travel abroad and doesn't expect to be able to find the money any time soon, so he has never driven along the route. Local officials have used the foreign money to buy up the best property and evict the poor, he says. His own house is at risk: it belonged to his great-great-grandmother and all his family were born there. Some people he knows survive by stealing, he says - a loaf here, some supermarket food there. He claims to have friends in prison who are desperate to stay because inside they don't go hungry.

“Our government is more corrupt than any other . . . and the US and the UK support them in their corruption”

Nana, 44, a biologist, is strolling through a nearby park opposite the parliament building with her four-year-old son. This is where Saa kashvili's supporters celebrated with fireworks when he forced Shevardnadze's resignation in 2003. "Things feel uncomfortable now," she says. "I'm not frightened at the moment but I feel as if we are not going in the right direction." She worries about her son's future. Eighty per cent of the intelligentsia have lost their jobs, she says, and no one needs scientists in the way they did in the Soviet era. "I am lucky - I still have a job. Most people I know are out of work. I don't think this problem with Russia will be resolved peacefully and I find that very upsetting. Saakashvili was wrong to use violence [against the breakaway provinces of South Ossetia and Abkhazia]. It was not the right way to respond. I feel as if we are not being told the facts. This situation is benefiting someone, but you can't quite work out who. I do agree that we should fight to keep these territories because they are ours and not Russia's. But it should be a diplomatic fight, not a military one. Why kill people over something like this?"

The one hope, she says, is the popular female politician Nino Burjanadze, a 44-year-old pro-democracy campaigner who was briefly acting president before Saakashvili took office. Burjanadze has already aligned herself with the protests against Saakashvili's actions this summer and is calling for elections. The word is that "something" could happen as soon as the end of this month. "No one knows what, though," Nana says, stroking her son's head. The more she talks, the more upset she becomes. "Sorry - I am not articulating myself very well. It's because I'm afraid."

Down the road in an underpass leading to the main street, Rustaveli, four menacing-looking youths are hunched together around a cap thrown on the floor. Suddenly they open their mouths to sing, and a pure Georgian chant reverberates around the walls. Next to them a woman in a housecoat and slippers is selling curtains. Some old men are having a picnic of tomatoes and bread on an upturned cardboard box. Out on the street, stray cats and dogs are everywhere, picking their way through buildings abandoned halfway through reconstruction. You encounter well-dressed, middle-aged people who look as if they are sitting down waiting for someone or something. It is only when you see the outstretched, cupped hand and the expression of shame on each face that you realise they are begging. At a set of traffic lights one man is trying to sell balloons, weaving in and out of six lanes of traffic.

Before the war with Russia in August, Georgia’s economy was expanding rapidly: its reported growth rate for 2007 was 12.4 per cent, according to the New York-based analysts EurasiaNet. There are signs of stability: BP, PricewaterhouseCoopers, Pepsi, Coca-Cola and the legal firms Baker & McKenzie and DLA Piper all have offices here. There is a vigorous cafe culture: a chain of literary cafes has opened in recent months. For young people in their late teens and twenties, especially those who speak several languages (as many do), the outlook is not bad; new Marriott and Hyatt hotels have opened and the service industry is growing. Anyone who can get a job with a western company can hope for a salary of up to $2,000 a month. But this is an option for only a privileged minority. The salaries of state teachers and doctors are a tenth of this. And men like Alexander are completely washed up.

In Tbilisi's most affluent quarter, Shardeni, the mood is more combative. Besarion Darjani, an affable gallery owner in his fifties, says he supports the current regime: without American aid Georgia would be even worse off.

"It's all about money, the oil pipeline and Russia's pretensions to be an empire," he says. "Putin wants someone in some godforsaken Siberian town in the middle of nowhere to turn on his TV news, see the bombing, beat his chest and say, 'Hey, that's our territory!' Saakashvili was obliged to do what he did because he had to defend our territory against the Russians. He was provoked."

His gallery sells the work of 50 local artists, many of whom have up to ten dependants. It is largely foreigners who buy the artwork, he adds, so he is happy to see them and their money. In a courtyard near the gallery, a group of Americans are drinking a bottle of Georgian red wine. Last month the Georgian Chamber of Commerce welcomed a group of a dozen British tour ope rators for a week-long trip. But, with the crisis unresolved - and likely to flare up again at any moment - fewer foreigners have been coming.

If the situation with Russia is not resolved quickly, says Darjani, his business could dissolve: "Russia spits on the world and on any- one who gets in the way of their great empire. The current government has ruined years of friendship between Georgia and Russia. I don't blame ordinary Russians, though. I have a lot of friends living in Moscow and Leningrad. But the people of South Ossetia and Abkhazia are Georgians. Their nationalities have been artificially created by the Russians - they give them passports and money and promise them autonomy. So then of course they want to be Russian. But what about the fact that it is our territory and there are Georgians living there?"

Many of these South Ossetians and Abkha zians have sought refuge in Tbilisi, living in hospitals and schools. Their numbers are estimated at anything between 20,000 and 60,000. (According to the UN, another 20,000 have fled into Russia.) The capital's infrastructure can barely support them.

The authorities host regular entertainment and when several hundred Georgians turn up for a charity performance at the theatre on a Saturday night, they look as if they almost fit in but somehow don't. These are modern refugees: the children are impeccably dressed and taking pictures of each other on their mobile phones.

Some of the other theatregoers are local people. I meet a group of young women outside on the balcony. Dressed in satin blouses and leather trousers, they are not worried about Georgia's future. "You couldn't really notice any difference in Tbilisi in August," one of them says. "It is worrying, of course, but I think that whatever happens the EU and Nato will bail us out, especially if it gets really bad."

But those of the older generation know how conflicts have been resolved in the past. Many of the actors from the theatre died in the last war in the early 1990s in Abkhazia. “These were boys who did not even know how to hold a gun,” says the director Robert Sturua. “I told them, ‘If you go to war, don’t bother coming back, because I don’t want murderers in my theatre.’”

The theatre has a small government subsidy but survives largely through donations from an anonymous businessman, who pays the directors' and actors' salaries. They cannot hope for too much from the state, says Sturua. "We have a government that is making a lot of mistakes. That's normal, though. That's freedom. It's like Jefferson said, 'Freedom is a tree you must water with blood.' It sounds cruel but it's the truth. Georgia has suffered more than any other former Soviet republic. There is a generation of people who have completely lost hope."

Worst of all, the war in the summer eclipsed some of Georgia's greatest cultural achievements this year, he says. The State Ballet of Georgia was acclaimed at this year's Edinburgh Festival, where the much-feted prima ballerina Nina Ananiashvili performed Giselle. Another Georgian dancer, David Makhateli, is a rising star with the Royal Ballet in London.

Sturua argues that life has returned to something approaching normality since the events of August: there is no military presence here at all and already the tourists are returning. Cultural and historical tourism is something many see as Georgia's potential salvation. Sturua is an optimist: he sees no reason to think Georgia won't thrive once the territorial disputes with Russia are resolved.

But this sort of talk will not pacify the likes of Alexander. He just wants a regime change, and doesn't care who becomes president so long as he or she stands on an anti-corruption ticket. "There is no such thing as normal life here," he says. "Everything is in ruins. Even if you work you don't always get paid." But how do people survive, then? "A very good question," he laughs. "Why don't you ask our government how people like me get by? They don't care."