Where It All Goes Down
Wo und Wann
We know that Harry is living in a place where German is spoken, and it's got to be either Austria or Germany because everyone's always griping about the Kaiser (which is the name of the ruler of those empires in the late 19th- and early 20th-centuries).
The mention of the Kaiser is one time period clue. Another is the war that everyone keeps talking about. Harry is called a traitor because he was against the "great war," which refers to World War I… so we can guess that this is happening sometime after 1918 but before 1927, when the book was published. Plus, there's tons o' jazz being played, which just screams "1920s partaaay!"
Order versus Chaos
The room Harry rents is in a super clean house run by a super nice little old lady. It reminds him of his childhood and his mother, who kept a neat home. That's important for the Steppenwolf, who—even though he's a Wolfman—likes to have something orderly to anchor him.
However, the dance halls and, finally, the magic theater, are the extreme opposite of the boarding house. There is dancing, drinking, orgying, and all sorts of mayhem, which appeals to the wolfish side of Harry.
Step Right Up
The Magic Theater is the setting for the end of the novel. It shows up earlier, though, advertised above a disappearing, locked door in a courtyard. So we already know that it's a mysterious place, and who can resist a locked door?
At the costume ball, Harry is invited into the Magic Theater, but he's told that the price is his mind. It's not that he's getting lobotomized (or anything scary like that) but rather that the Magic Theater gets built up in his mind.
He has to take some special drugs in order to go in, and the Theater turns out to be an endless hallway full of doors. Each door leads to a different scene. Some of them are memories that turn into sort of what-might-have-been scenarios. Others lead to pure fantasy that lets Harry live out wild imaginary scenes.
The Magic Theater is a place where anything can happen, and where Harry can return in order to learn to see the infinite possibilities of his identity… and also where he can learn to finally laugh and put things in perspective.