From your home folder, install virtualenv. This will allow us to add modules to Python by creating a virtual environment in our home folder:

wget http://pypi.python.org/packages/source/v/virtualenv/virtualenv-1.4.5.tar.gz
tar xzf virtualenv-1.4.5.tar.gz
python2.5 virtualenv-1.4.5/virtualenv.py $HOME/local

Add your new ~/local/bin folder to the beginning of your PATH so it takes priority:

PATH="$HOME/local/bin:$PATH"    
export PATH

Now add the two lines above to your .bash_profile so this will be set automatically when you login:

nano .bash_profile

After adding the lines, save the file by hitting Ctl-x, y, ENTER

Install the MySQL module if you need it:

easy_install MySQL-python

Download the source release, unzip it and move the contents directly into your domain's root folder (yourdomain.com).

cd
wget http://www.web2py.com/examples/static/web2py_src.zip
unzip web2py_src.zip
mv web2py/* yourdomain.com/

Change your root web directory to yourdomain.com/public at panel.dreamhost.com and enable Passenger on your Dreamhost account:

Edit wsgihandler.py and add these two lines near the top after 'import os' to redirect requests to virtualenv's python2.5:

...
import os
INTERP = "/home/username/local/bin/python2.5"
if sys.executable != INTERP: os.execl(INTERP, INTERP, *sys.argv)
...

Symlink wsgihandler.py to passenger_wsgi.py with the following command:

ln -s wsgihandler.py passenger_wsgi.py

That's it! A word of warning though...this seems to break the Dreamhost stats and myPHPadmin.

To restart your app, create or modify the file tmp/restart.txt in domain's root folder.

Links:

Dreamhost WIKI

Phusion Passenger