By MATTHEW ROSENBERG, Associated Press Writer Mon Feb 13, 2:16 AM ET

PANAUTI, Nepal - They came just after dinnertime, hundreds of communist rebels in green fatigues flowing in from each direction.

One group stormed down the brick lanes of Panauti’s old town - past the Hindu temples crowned with pagodas, the Buddhist shrines, the well-appointed homes - to cut off the small army garrison. Others headed for the town’s municipal offices, where they killed a policeman guarding the building.

"They took over - they had total control," said Ram Hari, 20, whose apartment overlooks the offices. "They stayed here for hours."

It’s a story heard throughout the Himalayan kingdom these days as the Maoist rebels, emboldened by the country’s deteriorating political situation, mark the 10th anniversary Monday of their fight to create a communist Nepal.

King Gyanendra seized power just over a year ago, saying he needed to oust an interim government to bring order to a chaotic and corrupt political scene and quell the rebellion, which has claimed 12,000 lives.

A year on, the rebellion has only intensified, the economy has fallen apart and the rebels control a third of the country.

"The momentum is now on our side," said Suresh Ale Magar, a jailed Maoist official.

That was clear in Panauti, where the insurgents ransacked then destroyed the municipal offices on Feb. 6. with two homemade bombs. Along with the policeman, a soldier was killed.

"That they can just come in here and plant bombs and then disappear - it means the king is in big trouble," said Janak Thapa, another resident of the town in the heavily guarded valley that surrounds the capital, Katmandu.

Brazen as the attack was, few in Nepal believe the Maoists - who are estimated to have up to 12,000 lightly armed fighters - can win an outright military victory.

Instead, diplomats and analysts say the rebels have put themselves in a position to take at least some power by skillfully exploiting a split between Nepal’s king and the political parties he usurped.

"If the legitimate constitutional forces are split, that gives the Maoists a real big opening, and they’ve driven that wedge in," U.S. Ambassador James Moriarity said.

Asked whether he believed they could help oust the king, Moriarity replied : "Absolutely."

As anachronistic as a successful communist rebellion seems in the 21st century, the Maoists’ rhetoric of equality resonates deeply among Nepal’s 27 million people, many of whom still toil in feudal conditions on land owned by a wealthy elite.

Still, many here say the rebels’ power is rooted in fear. Vocal critics have been literally butchered by the insurgents, who often steal what they need from poor villagers and press young men and women into service.

"The Maoists are canny," said Rhoderick Chalmers of the International Crisis Group, a Brussels, Belgium-based think tank. "They are very patient. Even if their popular support is limited, they’re the only group with a coherent strategy."

Last year, they teamed up with the major opposition parties to press for democracy, an alliance that scored its first victory this past week when it undermined municipal elections.

Wednesday’s polls were billed by the king as a step back toward democracy. The rebels and opposition called them an attempt by Gyanendra to legitimize his power grab. The parties peacefully boycotted ; the Maoists stepped up attacks and threatened anyone who participated, killing two candidates.

The result was a turnout of about 20 percent, and an ever-widening divide between the opposition, which claimed victory, and the king, who appears unwilling to back down and negotiate with either the rebels or dissidents despite his plummeting popularity.

The turnout "clearly shows that people do not have faith in the king’s promises," independent analyst Dhruba Adhikary said. "The king won’t accept that."

But Nepalis also have little regard for the political parties, best known for corruption.

The Maoists, meanwhile, have become a political player through their alliance with the parties, and Moriarity and other observers say the rebels are the one group that can probably mobilize Nepalis, even if their support is based on fear.

But what’s the endgame ? Many in Nepal believe the king cannot hold on forever. Some talk of massive protests leading to an abdication, others speak of a military coup. The optimists talk of the king doing an about face and negotiating.

Magar reiterated the rebel position that whatever happens, they are ready to negotiate with either the king or the political parties - both of which he casually refers to as "class enemies," using the classic rhetoric of last century’s communist regimes.

"We will listen, we will be flexible - we recognize the need to engage our class enemies on the political level," he said. "We won’t immediately resort to renewing our armed struggle."

But he warned : "We are not flexible to the point that we are political and ideologically finished."