The Dreamhost instructions are outdated. In those instructions, the
app checks whether it is running under the correct Python interpreter,
and if not, re-executes itself under the correct Python interpreter.
However, before Phusion Passenger ever loads your app, it first runs a
"loader" application which sets up the environment for your app. And
it is that loader application that requires Python >= 2.6. So the
re-execution trick only works properly if the Python that was used to
run the loader, is >= 2.6. At Dreamhost, that's apparently not the
case.
The correct way to run your app under a different Python is not by
re-executing itself, but by using the PassengerPython configuration
option inside the web server:
http://www.modrails.com/documentation/Users%20guide%20Apache.html#_passengerpython_lt_filename_gt
If Dreamhost gives you access to the Apache config file, you can set
it there directly. If they don't, then you *might* still be able to
customize it through .htaccess, assuming that Dreamhost gave you
access to do this through 'AllowOverride on'.
Otherwise, you might want to consider switching provider.
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