Flashing Folder when USB device plugged into 3rd USB port

Model: Intel iMac, 2008, 2GB
Problem: Anytime I plug in any USB device into the third USB port from the left, next to the firewire port, I get a flashing folder.
If I boot into an install disc, it does not recognize or see the hard drive.
If I unplug the device from that specific port, the computer will boot and run fine.
I managed to zero out the hard drive and reinstall Leopard. I have reset PRAM and all that.

So if you plug in, say a printer, scanner, mouse or keyboard does it act the same?
The flashing folder tells you that the Mac cannot find a bootable OSX device (volume).
You stated in the original post "I have reset PRAM and all that"
Is resetting SMC included in the "everything like that" category? If you have not tried resetting the SMC then do that.
http://support.apple.com/kb/HT1411

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