Michael Kahn recalls sitting in the American Shakespeare Theatre in Stratford, Conn., sometime in the late 1960s and thinking, while the actors rehearsed, how big it all was -- the stage, the auditorium, the space that he, as the company's artistic director, had to animate.

"In this very large theater, it was often difficult to hear the actors when they just talked to one another," he says. "And it struck me how wonderful it would be if instead, I had a small intimate theater just to do Shakespeare."

Nearly two decades later, Kahn has got his wish. As the newly appointed artistic director of the Shakespeare Theatre at the Folger (the fourth in the company's history), he will be guiding what may be the country's most intimate theater dedicated to the Bard -- 252 seats in a museum replica of the Globe Theatre.

With it, however, comes a formidable set of challenges -- both artistic and financial. Although important strides have been made in the past 16 years, the company's goal of becoming the foremost classical theater in the nation still dances elusively beyond reach. So does economic security. The Folger Shakespeare Library, which once regularly picked up the theater's annual deficits, put an end to the arrangement last July. To avoid closing altogether, the theater agreed to assume full financial responsibility for its destiny. By modest estimates, that means raising approximately $650,000 of the annual budget, currently hovering around $2 million.

In many respects, the appointment of Kahn, who takes over for John Neville-Andrews, represents a major escalation in stakes. To survive, the theater can no longer function as simply a Washington institution. It must draw funding from corporations and foundations countrywide; to do that, it will have to command widespread artistic respect. Ironically, the theater generated more far-flung publicity 18 months ago with the announcement that it might close than it has with any of its productions.

Robert Linowes, president of the board of trustees, refers repeatedly to the "national constituency" the Shakespeare Theatre must develop in the near future. Two weeks ago, the theater took a significant step in that direction by entering a six-year, $2.8 million educational and cultural agreement with the University of South Carolina.

If there's still lots to be done, many believe that Kahn, who looks rather like one of the haughty Far Eastern moguls Yul Brynner once played, may be just the man to deliver the goods. In addition to his 10-year stint at the American Shakespeare Theatre, he has served as artistic director of two other respected companies -- the McCarter Theater in Princeton and the New York-based The Acting Company. As an acting teacher at the Juilliard School and New York University, he has trained a generation of the country's foremost younger talents -- ranging from Kevin Kline to Mandy Patinkin. He has directed O'Neill and Williams, operas, musicals and, although he puts it low on his list of credits, such Broadway twaddle as "Whodunnit."

He is demanding, temperamental, stern, ambitious and vain enough to hedge about his age, which he omits from any biographical data -- saying, when pushed, that he's 46, and then later that he's "going to be 46." In his earlier days, he was not known to suffer fools gladly -- or even foolish actors -- but "$80,000 at the shrink later," he says he's mellowing and at least one of his former students finds him "incredibly loving and supportive."

"I do not like artistic directors who come in and bitch about the previous regime," says Kahn. "But I hope I will bring my passion, my expertise and my association with a lot of very good actors and directors to the Folger. These are the most difficult plays in the world. They are also the best. And they demand the best talent. If the best actor lives in Seattle or the best director in New York, that's who should be doing it. This place is called the Shakespeare Theatre at the Folger -- not the Washington Shakespeare Theatre at the Folger."

For some -- especially members of the local theater community, which prides itself on its growing self-sufficiency -- those are fighting words. Among his first official acts, Kahn dissolved the resident acting company of 18, many of whom had been on the payroll for years. Implicit in the decision was the judgment that the company just wasn't good enough and that, far from forging a coherent Shakespearean style, the actors had mostly dug themselves into a deep rut.

"When Michael was appointed, everyone kind of joked, 'Well, there goes my job!'," says one former company member. "But I don't think people anticipated such a sweeping change. They felt stung, shocked and then panicked -- all of that. It is the nature of this business that one day you have a job, the next day you don't. But it still hurts. We were a family."

For the time being, each production will be cast on a show-by-show basis and the concept of a resident company, long a cardinal tenet of the Shakespeare Theatre, has been relegated to the vague future. "I won't have a resident company the first year, maybe not even the second," Kahn says. "It's not possible to create a first-rate resident company in such a short time and I'm not interested in anything less than a first-rate company. What I see, eventually, is a large cadre of actors who feel committed to spending a certain part of their time in Washington."

That includes, he says, performers of recognized stature, who he believes would be willing to devote three or four months of the year to a classical play at less than sterling wages.

"At Stratford, I had Jane Alexander, Elizabeth Ashley, Fred Gwynne, Morris Carnovsky, Fritz Weaver, Rosemary Murphy, Carole Shelley," he says. "Because there are so few places in the United States to perform the major or even the minor classics with people who know what they are doing, I think we can attract well-known actors -- well known because they are good actors -- to the Folger. I certainly plan to ask them. I've talked to Tom Hulce "Amadeus" about doing something next season. Obviously, they aren't going to come here for the money. You can't pay them enough. But they will come because it's a passion of theirs -- because they want to do Cleopatra or Antony or Hamlet."

At the same time, Kahn intends to continue his association with The Acting Company and Juilliard -- both reserves of young talent that could presumably feed into the Shakespeare Theatre. "Perhaps more than anybody," Kahn says, "I bridge quite a large arc. I started directing classics very young, so I've worked with a lot of major actors. On the other hand, I've trained well over 1,000 young actors. If there's one thing I want very much to do, it's bring those different generations together."

"In a way, this place allows me to put my life together artistically and professionally for the first time," says Kahn, who envisions the Shakespeare Theatre as part of a logical continuum that includes the Juilliard and The Acting Company. "It's like having a school, an on-the-road training program and a theater. That's extraordinary. None of those organizations has it all separately. But they all have it through me."

Kahn's first season will consist of four offerings, instead of the usual five, beginning on Oct. 7 with "Romeo and Juliet." It will be followed either by Machiavelli's "Mandragola" or Ben Jonson's "Volpone." Shakespeare's "Love's Labour's Lost" and "The Winter's Tale" will round out the bill. Kahn says he'll direct two at most and throws out the names of Mark Lamos, Michael Langham, Vivian Matalon and John Hirsch as the sort of directors he'd also like to see staging productions at the Folger. To the extent that he can implement his vision, the Shakespeare Theatre is likely to assume the tenor and coloration of Arena Stage, next to which it has long been viewed as the poor stepbrother.

While Kahn says he is perfectly willing to work within the budgetary constraints for now, some experts think they are unrealistic. "It has to be said that the classics are the most expensive mountain to climb," says Ed Martinsen, theater program director for the National Endowment for the Arts and soon to be the executive director of the Tyrone Guthrie Theatre in Minneapolis. "In my judgment, the Folger theater has been underfinanced by a considerable margin. I wouldn't want to name a figure, because it would probably scare them to death. Getting Michael is certainly a promising step. But in order for him to do the job, the theater is going to have to attract a whole lot more support." Some suggest that a budget of $3 million a year would still be cutting corners.

The agreement with the University of South Carolina seems to represent a fruitful alliance, but much of the money will underwrite new programs -- a teaching post at the university for a member of the Shakespeare Theatre, acting internships and staged readings of plays by the university's faculty and students. The company will also take one of its productions south every year. Just how much of the $2.8 million will be left over for the basic operation of the Shakespeare Theatre is not yet clear. "I would estimate about half of it," says trustees president Linowes, optimistically.

Sitting in his new office and sporting a tan that comes mostly from driving his 1972 LTD convertible with the top down, Kahn contemplates the future with equanimity. "I don't feel like I'm in this embattled, competitive position here," he says. "I know what is special about me. What I want to find out is what can be special at the Folger.

"I'm not being Pollyannaish, but I feel a special community with the other theaters in town, which is rare. Zelda Fichandler Arena Stage's producing director and I are really good friends. Bill Stewart Arena's executive director was my managing director at Stratford. The Arena company is full of actors I taught -- Heather Ehlers, Casey Biggs, Kim Staunton.

"I have a lot of personal relationships at the National Endowment, at the Kennedy Center. I've directed for Ford's 'Eleanor' and the Washington Opera Society 'Carmen' . I seem to be connected all over the place. I feel there's reason I'm here."

An only child -- "Can't you tell?" he cracks -- Kahn says he knew from the age of 4 he wanted to direct plays, although apparently not even his extended sessions at the psychiatrist's have revealed why. "Maybe because I was a bossy, snobby kid," he speculates. His father was an electronics engineer; his mother ran a dress shop. They lived in Brooklyn and occasional forays to the Broadway theater were not uncommon.

"My mother died when I was 13," Kahn says, "but I think she always encouraged me to become a director. Father didn't understand it. He was a very gruff man, although he built my Humpty-Dumpty costume when I directed 'Alice in Wonderland' at 8, and he did make me the puppet theater we all had." Kahn wrote his first play in second grade. By the fourth grade, he had his first theater company. "I didn't have many friends when I was young," he jokes. "I just had casts."

He attended the High School for the Performing Arts in New York, "where we did not dance in the streets like 'Fame'," and then Columbia University. Shortly after graduation, he began working off-Broadway, staging, among others, Adrienne Kennedy's "Funnyhouse of a Negro" and Lanford Wilson's "The Rimers of Eldritch." But it was his production of "Measure for Measure" for Joseph Papp's Shakespeare Festival that led to his 10-year directorship of the American Shakespeare Theatre. (After his departure, the Connecticut company ran into severe financial problems, closed, and only recently began operating again on a limited basis.)

Although he has a passion for Jacobean tragedy, which he plans to present here, Kahn says Shakespeare is his favorite playwright and "Winter's Tale" his favorite Shakespeare. "The great thing about Shakespeare," he explains, "is how ambiguous he is. That's what makes it both possible and desirable to do his plays again and again. He provides many more questions than answers, which are not easily given or given at all. Anything you do that reduces the play, pigeonholes it, is a betrayal of the magnitude of Shakespeare's intellect.

"I think I'm fairly rigorous in my investigation of text and character. I've never been one who thought, 'Wouldn't it be fun to do this play in the style of the 'H.M.S. Pinafore.' I suppose there's nothing wrong with setting 'Romeo and Juliet' in a circus, if you think that the circus truly illuminates 'Romeo and Juliet.' But I'm not big on leafing through art books and choosing an attractive period. That's just decor and theatrics for their own sake.

"By the same token, I can't say we'll be doing all the plays traditionally. Most people's idea of traditional Shakespeare is merely what they saw when they were kids. If I do a particular play, it's because there's a reason to do that play, because it truly speaks to me or because there are specific actors who would be marvelous in it."

Forecasting the sort of productions Kahn will bring to the Folger's Elizabethan stage is probably better left to gazers of crystal balls. But it is reasonably certain that the Shakespeare Theatre, under his leadership, will not stoop to some of the excesses of the past few seasons -- a "Merry Wives of Windsor," say, played in a fun house setting by actors sporting bulbous noses and baggy pants. Although Kahn is careful not to indict the prior regime, "frivolous" is one adjective that escapes, disdainfully, from his lips.

Zelda Fichandler, who says she's known Kahn "forever," offers this appraisal: "Michael stands for all the right things. He's a great respecter of the acting process. At a time when the tendency is to push the actor to the edge of productions, Michael puts him right back in the center. He really is an actor's director. He's not a faddist in terms of what seems to be in one year or the next. He has a very coherent point of view about style. We're lucky to have him."

Garland Wright, the artistic director of the Tyrone Guthrie Theatre, worked with Kahn for four years at the American Shakespeare Theatre on "productions that ranged from an authentically Elizabethan 'Measure for Measure' to an antiwar 'Henry IV' -- done on a playground with the French on plasterer's stilts, which made them very tall, compared to the English, who were very small.

"A clarity of text is what showed through in all of them," he says. "One of the things I probably learned from Michael is that any given approach to the text has to come out of the text. His intelligence is formidable, he's terrifyingly well-read, and his memory annoys me. I think he's going to be very comfortable in Washington. And don't underestimate the catalogue of talent he brings with him."

bat10 Whether Kahn will lift the Shakespeare Theatre into the ranks of a major classical company remains the big theatrical question for next season. Now that the glow is off Peter Sellars, whose plans to launch an American National Theater at the Kennedy Center have been greeted with a decided lack of enthusiasm, Kahn has become the savior of the moment. "It's my guess that if Michael doesn't make it," says a former member of the Shakespeare Theatre's acting company, "no one will. They can't go on forever, just changing artistic directors."

Kahn, cool and imperious, resists the pressures for instant results. "Obviously, I'm part of a transformation that is going on at the Folger. But I'm not coming here with a full-blown troupe of people I've worked with for years. I am going to have to put things together slowly and come to understand this place. I'm reluctant to make ringing pronouncements.

"As I've gotten older, I'm much more aware of the different sides of an issue than I used to be. I take more time than when I was young. But that's okay. If it takes me longer to decide, it only means that I'm that much more aware of all the possibilities."