KNIN, YUGOSLAVIA -- If Yugoslavia splits apart, as many diplomats and ordinary people here now expect sometime in the coming year, the jagged edge of the rupture is likely to run through this small town.

Residents of this Serbian enclave in the republic of Croatia thought last month that civil war had already broken out. Rumors spread that Croatian police were coming by train to kill Serbs.

Families living near the tracks fled their homes in the middle of the night. Alarmed Serbs broke into police stations and armories to steal weapons. Roadblocks sprang up on the edges of town. The local radio station misinterpreted a few exuberant shots from the stolen weapons and reported that fighting had begun.

To understand widespread predictions that the multi-ethnic Yugoslav federation will soon come unglued, it is useful to take a look at Knin's imaginary war -- and the dangerously real fears, memories and political machinations that underlie it.

Knin, a hardscrabble town where the rocky soil is worthless and the major employer is a near-bankrupt nuts-and-bolts factory, has long been a cultural center for the half-million Serbs marooned in Croatia by border agreements that date from World War I.

Croatia, with 4.6 million people, is the second-largest of the six republics that make up Yugoslavia. Serbia, with about 11 million people, is the largest. Peaceful, if not contented, coexistence between these two dominant nationalities is essential for Yugoslavia's survival.

But in recent months Serbs in Knin have become alarmed by a post-Communist flush of Croatian nationalism. The Communists' four-decade-old lock on political power in Croatia was shattered in last spring's free elections, which were won by a nationalist party demanding "historical justice." Among other things, these demands have led to a purge of Serbs from government and media jobs in Croatia.

Most importantly, the new Croatian leadership is threatening to secede from Yugoslavia unless the federation becomes a "confederation." Croatia, like the republic of Slovenia to the northwest, demands sovereignty akin to that enjoyed by European Community members.

Such demands have a frightening resonance for the Serbs of Knin. People here remember World War II, when Croats collaborated with Nazis in setting up the Ustashi government. Under that regime, tens of thousands of Serbs -- many of them from the Knin area -- were murdered. The new Croatian government has begun to fly a flag similar to that flown by the Ustashi.

"A new government has come to power and they have established the same symbols under which our people were killed. We don't agree with this attempt to separate from Yugoslavia," said Lazar Mazura, a Knin schoolteacher and a leader of the Serbian movement here.

Besides war memories, a cultural and religious chasm separates Serbs from Croats. Although they speak the same language, the two ethnic groups are rooted in different streams of European history.

Croats are Roman Catholic, their alphabet is Roman, their historical ruler was the Austro-Hungarian Empire. Many Croats pride themselves on their links to the West. Serbs are Eastern Orthodox, their alphabet is Cyrillic, their longtime ruler was the Ottoman Empire. Many Serbs pride themselves on their culture's independence from the West.

Serbs in Knin claim that Croats are participants in a German and papist conspiracy to enslave Serbia. Senior Croatian government officials claim that Serbs are culturally incapable of establishing a government that is anything other than dictatorial and hegemonic.

Exacerbating Serbian fear of Croats is a recent order from Croatia's newly elected president, Franjo Tudjman, demanding that the percentage of Serbs in the republic's police be reduced. Serbs are being fired from the force and Croats are taking their jobs. This particularly galls Serbs in Knin, where police work has been a traditional escape from poverty.

Serbs here decided in August to answer Croatian democracy with Serbian democracy, Croatian separatism with Serbian separatism. They held a referendum calling for Serbian cultural autonomy inside Croatia. Tudjman immediately declared it illegal. But the local Serbs went ahead with it anyhow.

Not all of the trouble surrounding that referendum was imaginary. After the break-in at the police stations and the armory here, the Croatian government dispatched two police helicopters to Knin. They were intercepted and turned back by Yugoslav army MiG fighters, dispatched from Belgrade. Serbs dominate the officer corps of the federal army.

In the end, no one was killed in Knin. But it took three weeks for the roadblocks to come down. During that time Croatia estimates it lost $300 million in tourism (tourists were held up for days by roadblocks near the Adriatic Sea) and unconsummated joint business ventures with foreign investors.

Only on Tuesday, nearly a month after the imaginary war, were the Croatian government and the Serbs of Knin able to come to an agreement by which the stolen government weapons can be returned. The Serbs have promised to return all the guns and the Croats have agreed not to set any deadline.

Yet the imaginary war in Knin could have been -- and still might be -- a flashpoint for ethnic violence and the collapse of Yugoslavia, for Croatia's nationalism finds its mirror image in the republic of Serbia.

The Serbian government seems to be pouring gasoline, rather than water, on Knin's smoldering troubles. Serbian President Sloboban Milosevic has compelling political reasons to foment tension between Croatia and Serbia, according to his many critics, both Croats and Serbs.

Milosevic, 48, has made himself into the most popular politician in Serbia. In the past four years, he has deftly used tub-thumping Serbian nationalism as a cover for the old-style, hard-line Communist government he controls. The budding democratic movement in Serbia describes Milosevic as Eastern Europe's last Stalinist.

But it now appears likely that late this year Milosevic will have to run in postwar Serbia's first free election. As elsewhere in Eastern Europe, a Communist resume has become a political liability in Serbia -- even for a Serbian folk hero.

According to Western diplomats and many Yugoslav analysts, Milosevic's best hope of overcoming his doctrinaire past is to stir up ethnic trouble. "In a period of peace, Milosevic's popularity declines," said Vladimir Gligorav, an economist and leader of an opposition party in Belgrade. "But if there is trouble, his popularity rises. Serbs rally around him. He needs constant conflict."

Croatian leaders say Milosevic is using Knin to divert attention from Kosovo. In that Serbian province, human rights organizations and a U.S. congressional delegation have concluded that the Serbian government is violating the human rights of the ethnic Albanian majority. Despite international criticism, the government has suspended the local legislature in Kosovo, shut down the ethnic Albanian press and arrested hundreds of ethnic Albanians.

The Belgrade city council, which is controlled by Milosevic, sent Serbian businessmen to Knin recently with offers to build a shoe factory and open other businesses. According to Mazura, who is deputy chairman of the town council, the offers were contingent upon continued local opposition to the Croatian authorities. "Serbia may be using this situation," Mazura conceded.

But Slavin Letica, principal adviser to Tudjman, said Croatia's president has decided not to use force against Serbs in Knin, even if they violate laws. Said Letica, "If one ignores them, maybe they will go away."

Here in Knin, where the roadblocks recently came down and the stolen guns are being returned, there is hope that civil war can be avoided. "Nobody is really ready to kill," said Mazura.