This is an extract from a tip from ‘Xen Virtualization community support and Howto’s.‘.
Thanks guys. It saved my but.

When installing new virtual machine on a Debian “Lenny” host,
You might get the following error message once you try SSH the new domU:
PTY allocation request failed on channel 0
stdin: is not a tty

One way to solve the problem is installing udev ont the host guest (in case it is not installed yet).
Log in to your Dom0 and than connect your domU’s console with xm console [domU ID]

At the domU console run:

apt-get install udev

In my case since I could not go to the console( a few hundred kilometers away) I did the following:
– stop the DomU
– Mounted it on a directory through loop
mount -o loop,rw /where/my/DomU/ /mnt/domu/
– chroot to it
chroot /mnt/domu/
– Install the udev package. (it complains at the end..but no worry)
apt-get install udev
– Add the following mount in /etc/fstab
none /dev/pts devpts defaults 0 0
– exit from chroot
– unmount the loop
umount /mnt/domu
– restart the DomU
xm create /etc/xen/mydomu.cfg
Execute the commands:
mkdir /dev/pts
mount -a

Now try to login.It worked for me.

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