PANAJACHEL, Guatemala -- A friend had warned that the road from the Pan- American Highway to Lake Atitlan started out bad and got worse. "But, it's worth it," he assured me.

Still, I didn't expect potholes that threatened to devour my small Japanese-made rental car. Nor was I ready for the colorful but traffic- snarling chaos of market day in Solola, a predominantly Indian town about halfway between the highway and Panajachel, my destination. Most of all, though, I wasn't prepared for the shimmering beauty and dramatic volcano- rimmed setting of Lake Atitlan -- without doubt one of the most spectacularly beautiful lakes in the world.

I got my first good view of Atitlan shortly after passing the local army barracks, notable for its bizarre main gate -- a huge pair of black-painted military boots topped by a giant helmet. The lake was calm and mirrorlike, reflecting and absorbing the shifting white clouds and bright blue sky, the colors vivid in the clear air of the Guatemalan highlands.

On the far side of the lake, peeping through the shifting mists with massive coyness, were three great volcanoes: San Pedro, Toliman and Atitlan, all more than 9,000 feet high. This is indeed a volcanic country, and Lake Atitlan is itself a caldera, the 50-square-mile crater of an enormous extinct volcano.

The road snaked down to the lakeside, passing a few handsome, bougainvillea-smothered villas and the entrances to several resort hotels, and finally brought me -- after a major bump or two -- into the dusty but affable heart of Panajachel.

The tourist hub of the region, Panajachel is an easygoing and funky place, simultaneously smugly provincial and extraordinarily cosmopolitan. No other town in Guatemala is like it.

At first glance, Panajachel appears the epitome of scruffy modernism: a grid of unpaved streets lined with mostly ramshackle buildings and given over almost exclusively to visitor-related commerce. Actually, there has been a town here since 1547, when Franciscan missionaries built a church and, backed up by the Spanish army, proceeded to forcibly convert the reluctant Tzutuhil Maya to Christianity.

The facade of the original church still stands on Calle Real, but the building has been much rebuilt after several severe earthquakes. Since Panajachel developed more or less organically, there is no formal, plaza- centered and church-dominated town plan as in most old Latin American towns, and the church building is not very conspicuous.

Within Guatemala, Atitlan has always been known as a beauty spot but, until relatively recently, has attracted few foreigners. However, one overseas visitor in the 1930s, the much-traveled writer Aldous Huxley, was extremely impressed with Lake Atitlan, declaring it just as beautiful as Italy's far more famous Lake Como -- and with volcanoes thrown in as a scenic bonus. ''Almost too much of a good thing," he concluded.

"Pana" really came into its own in the 1960s, when it was discovered by

globe-trotting international hippies looking for an aesthetically pleasing place where they could lay over, living cheaply in squatter camps where casual nudity and occasional pot smoking would raise no eyebrows. Word of this lakeside counter-culture utopia quickly spread, and Panajachel became -- and still is -- a major stop and staging point on around-the-world backpacker routes.

Guatemalans jokingly renamed the town "Gringotenango" -- "Place of the Foreigners." The name still fits.

Many of the original hippie settlers fled Panajachel in the early 1980s when the Guatemalan civil war raged around the lake. But there are still a number of sandaled, gray-bearded and love-bead-bedecked types of indefinite nationality who look as though they dropped out in 1968 and have yet to come back in.

The old-timers' social center is El Chisme ("The Gossip"), a pleasant little cafe where locals get their mail and can post notices on a bulletin board that serves the expatriate community.many languages.

Panajachel is only 80 miles, about a 2 1/2-hour drive, from Guatemala City. In recent years, many well-to-do Guatemalans have built impressive-looking second homes along the lake. Nonetheless, there usually seem to be at least as many foreigners as Guatemalans in town.

Almost every visitor to Guatemala, whether hitchhiking with a backpack or traveling as part of a deluxe conducted bus tour, passes through Panajachel at some point in his or her itinerary. Hospitable Pana accommodates them all, with hostelries ranging from simple hospedajes, where a plank-walled room and access to a hot shower can be had for $3-$5 a night, to posh resort hotels charging $65-$90 a night for air-conditioned rooms with a lake view.

Hotels and guesthouses are usually run by Guatemalans, but, like the visitors, these natives often have varied ethnic backgrounds. I stayed at the moderately-priced ($30-$60 a night) and very pleasant Rancho Grande Inn, owned by Marlita Hannstein, a Guatemalan of German ancestry.

Hallstein said her grandparents were among the German immigrants who created the Guatemalan coffee industry at the turn of the century. The Rancho Grande replicates a traditional German coffee plantation of the sort she grew up on: a half-dozen whitewashed, immaculately clean cottages grouped around lushly green and flower-filled gardens. The breakfast coffee served at Rancho Grande is brewed with beans grown on the family finca. Most of the backpacker-favored budget hotels (some little more than shacks) are found along dusty and usually crowded Calle Santander, which runs down to the lake and is lined with crafts stalls, bars and restaurants. The posher hotels, such as Hotel Atitlan and Hotel del Lago -- the latter, with a six-story main building, is Panajachel's lone skyscraper -- are on the lakefront.

In what seems to have been the first public attempt at beautifying Panajachel, INGUAT -- the Guatemalan National Tourist Organization -- recently created a landscaped promenade along the public beach between Calle Santander and Calle Rancho Grande. There are several good restaurants here (all serving lake fish), pricier than the places on Calle Santander but with lake and volcano views beyond price.

If you're not into water sports, there really isn't a lot to do in Panajachel other than sitting in a cafe, nursing a cup of superb Guatemalan coffee or a bottle of local beer (which isn't bad); shopping for Guatemalan handicrafts of the sort available just about everywhere in the country; and socializing multilingually with other visitors. Always, of course, you can walk along the shore and admire the beauty of a lake impressive in all its aspects.

More than 1,000 feet deep in places, Atitlan's waters harbor a variety of fish including a tasty species of black bass, the dinner specialty of several lakeside restaurants. The shoreline is rich in bird life, and the lake even has its own indigenous but now-endangered species of flightless bird, the Poc. Dotted around the lake are a half-dozen ancient villages where Mayan Indians still preserve their old beliefs and traditions.

In the morning, before the Xocomil -- an often dangerous high wind -- picks up, the surface of the lake is mirror smooth and ideal for waterskiing. The steep cliffs around Atitlan (remains of the crater walls of the volcano) make perfect launching pads for hang gliding.

Chilling out and taking it easy are part of Pana's hippie legacy, and most visitors seem content to go with the flow, using the town as a rest stop -- Guatemala's riot of colors and whirl of humanity can be overwhelming -- and as a base for exploring the area. For instance, Chichicastenango, which has the largest and most famous Indian market in Guatemala, is only 18 miles away (over a winding and treacherous mountain road that makes it seem a lot farther).

Another popular excursion is a boat ride across the lake to Santiago de Atitlan, largest of the traditional shoreline Indian villages. Launches usually depart early in the morning to avoid the treacherous afternoon winds. The lake is about 10 miles across at this point, and the trip takes about an hour, with gorgeous lake views all the way. On my trip, animated conversations were going on in a half-dozen languages, including British, Irish, Australian, Canadian and American-accented English.

With it's cobblestone streets, central plaza, whitewashed and red tile- roofed houses and massive church at the highest point, Santiago de Atitlan is very much a colonial town, far more Spanish in appearance than Panajachel. In fact, the population is pure Mayan, and fiercely proud of it.

Women wear traditional sarong-like huipiles, decorated with beautiful bird and flower designs, and many men wear broad-brimmed sombreros and traditional Tzutuhil Maya calf-length baggy striped trousers, held up with a colorful woven sash. When a boat arrives, vendors line the main street and offer handmade crafts for sale at prices -- for a good bargainer -- somewhat less than in Panajachel.

The Mayan influence is everywhere in Santiago de Atitlan, even in the church. The statues of saints, for example, are draped with brightly colored shawls woven by local women, who proudly give "their saint" a new outfit every year. Maya symbols are carved on the wooden pulpit, including Yum-Kak the god of corn, source of all life to Mayans who call themselves "People of Corn."

An altar in the church is dedicated to the 400 townspeople killed by the army during the troubled 1980s. There is also a photograph of an American missionary priest, Rev. Stanley Rohmer of Oklahoma, who was shot and killed by a military death squad in the church in 1981.

Although they are faithful churchgoers, the Indians of Santiago de Atitlan are traditional Mayans and also devoted to Maximon, a rather raffish Maya deity -- he drinks, smokes and is a fancy dresser -- who apparently represents the life force.

A carved effigy of Maximon, in a locked shrine most of the year, is taken out just before Easter by his devotees. Lovingly, they pour a bottle of rum over his head and put a lighted cigar in his mouth and a wide-brimmed fedora on his head. Then they carry their deity in joyous procession through a town founded by Spanish missionaries 400 years ago -- to convert the Mayans.

I expected to be a bit bored on the boat trip from Santiago de Atitlan back to Panajachel, but I wasn't. Atitlan, it seems, is a different lake each time you look at it. But always a beautiful one.

IF YOU GO

Panajachel is on the southern shore of Lake Atitlan about 80 miles from Guatemala City, Guatemala's capital. It is just off the Pan American Highway, the country's best-maintained road, and makes a good base from which to explore the colorful Indian villages of the area, such as Chichicastenango in the mountains or Santiago de Atitlan across the lake.

A 50-square mile, 1,000-foot-deep lake surrounded by three 9,000-foot-plus volcanoes, Atitlan is one of the world's most beautiful lakes. Panajachel was a sleepy hamlet until the 1960s, when hippies discovered it, liked the cheap living and mind-blowing scenery and made it a favorite stopover for international backpackers hitching their way around the world.

Panajachel is laid-back and unpretentious (most of the streets are unpaved) but very cosmopolitan, attracting and accommodating European, Asian and North American travelers of all sorts. Room rates run from $3-$5 a night in a pension-like hospedaje to $30-$60 in a comfortable inn and $60-$90 in a luxury resort hotel.

Because of an utterly unfounded rumor that foreigners have been kidnapping Guatemalan children to use their body parts for organ transplants, the United States State Department advises Americans to exercise caution -- especially around children -- when traveling in areas not commonly frequented by foreign tourists or business people. Some Americans falsely suspected of stealing children were attacked in rural areas last year, but no such incidents have occurred in Panajachel or other traditional tourist destinations such as Guatemala City, Antigua, Chichicastenango and Tikal.