I was just about to create a new thread about the very issue you are having with controller 2.
The problem that I having with the Dreamcast is as follows:
When I play games that have a maximum of 2 players and two players are playing the game (Soul Calibur and Marvel Vs Capcom 2 for example) it plays great. However when I play games that can have a maximum of 4 players and 2 players are playing (Virtua Tennis 2, Virtua Striker 2 although strangely Power Stone 1 causes the same problem) the game is paused by player 2 at random. I thought it was player two's start button sticking but I disconnected it and it still happened.
My controls are wired up as follows:
The minipac is connected via PS/2 to my KVM switch. One side of the kvm goes to the PC while the other side goes to the Dreamcast. The PS/2 cable from the KVM goes in to this adapter that I bought off of Ultimarc
http://www.ultimarc.com/dreamcast.htmlThe adaptor then plugs in to ports 1 and 2 of the dreamcast.
I thought it might be an issue with the dreamcast so I plugged the adaptor into another dreamcast but I still had the same issue. When I plugged the adaptor into ports 1 and 3 and played my test game Virtua Tennis 2 the problem went away!!!! So I don't have any idea what is causing the problem.
I suppose I could try and bypass the KVM but it will be a pain in the arse taking out some of the wires. Although I can't see how it can be the KVM when there is no problem when plugged in to port 1 and 3. If anybody has any ideas they would be very welcome as this is stopping a lot of my Dreamcast games being played in two player mode.
Here is a video of Power Stone running on my cab:
Before the game pauses a memory card error is displayed:
"No memory card found! Make sure that your memory card and controllers are connected properly."
Virtua Tennis 2 (picture below) does the same thing however it doesn't display a memory card error.