The inspector general of the U.S. Department of Labor vetoed a planned audit of Youth Pride Inc., which has received over $20 million in federal runds, out of concern that the probe might be politically embarrassing to D.C. Mayor Marion Barry, according to an affidavit from the Labor Department's former top auditor.

The sworn statement by Gerald W. Peterson, who was acting audit chief at the time the investigation was proposed last June, says Inspector General Marjorie Fine Knowles told him: "This is not too smart. Don't you know that the mayor's inauguration parade started at Pride."

Peterson said in his affidavit that he told Knowles that "we were only going to audit within the last year or two and that it should have no effect on Mayor Barry.

"She then stated that: 'He's still closely related to it [Pride]' and then advised me that we would 'have to come up with something else'" to investigate elsewhere.

Barry, who was a founder of the black self-help organization in 1967 and used it as a springboard to launch his political career, has not been directly involved with Youth Pride since January 1975. While his inaugural parade did not start at Pride headquarters on 16th Street as suggested, it did swing past the building.

Barry could not be reached directly for comment, but an aide to the mayor, Deirdre Daly, said: "The mayor doesn't know Marjorie Knowles, doesn't know anything about it."

No allegations suggest that Barry played any role in the Labor Department decision not to audit Youth Pride, and the mayor in fact ordered the District of Columbia government to review all its contacts with Youth Pride earlier this fall.

That review, which was concluded without finding any discrepancies, was ordered after The Washington Post reported in a series of articles that top officials of P.I. Properties Inc., a real estate spinoff of Youth Pride headed by Barry's former wife, Mary Treadwell, diverted, misappropriated and stole at least $600,000 from the U.S. government while running the Clifton Terrace apartments.

Treadwell, leader of Youth Pride since its founding, has denied any wrongdoing.

Knowles denied in an interview this week that she had instructed Peterson to drop the Labor Department's planned Pride investigation for political reason. "I know I didn't," she said. Knowles said she vetoed the Pride investigation because the Labor Department was conducting two audits in the District of Columbia and "that was enough."

Peterson and Paul Lehrman, a senior Labor Department investigator, had formally notified Knowles in a memorandum June 11 of plans to begin a comprehensive investigation of Youth Pride Inc. on June 21 with a team of three auditors and two investigators.

The decision to investigate the organization followed earlier reviews of Youth Pride books by Labor Department auditors who in examining the period from 1967 to 1976, found records missing, ledgers kept in pencil with numerous erasures, and at least $275,000 in questionable expenditures.

An examination of Labor Department records of Youth Pride showed that:

Auditors examining a $2,561,740 contract with Youth Pride reported on Oct. 4, 1971 that they "could not locate a budget prescribing in detail amounts and purposes for which federal funds were made available." They said they found, however, "lack of control over payroll advances," "failure to reconcile bank accounts on a current basis," and "inadequate inventory control over federal property and equipment."

Two private accounting firms attempting to audit a $1,470,848 Labor Department contract with Youth Pride found the records in such disorder that the audit could not be conducted. Officials of one of the firms, Opalack and Co., wrote on Dec. 28, 1977: "The general ledger is handwritten in pencil; many of the accounts show erasures and rewriting of complete pages; numerous postings could not be traced from the case disbursements journal to the general ledger; a chart of accounts was not available."

Labor Department auditors questioned $85,379.66 in Youth Pride expenditures out of federal funds including $7,064 for 29 employes to attend the Congress of African Peoples Conference in Atlanta in September 1970, and $10,338.21 for unsupported or unauthorized supplies in 1969 and 1970.

This was the backdrop to the recommendation by Peterson and Lehrman that Youth Pride be audited starting June 21.

"We chose Pride because, based on past audits, we believed there was something wrong there," said a former top member of the inspector general's staff.

In notifying Knowles of their intention to launch the investigation, they added that they would inform Barry's office and the D.C. Department of Manpower and included a letter of notification to Treadwell, the head of Pride, for Knowles to sign.

Knowles' response, according to Peterson's affidavit, was to tell him: "We're not going to do it."

The Labor Department subsequently found another program to audit instead, in Milwaukee.

One of Knowles' special assistants, Sheldon D. Repp, implied that Peterson had a personal ax to grind in charging that the Pride audit was vetoed for political reasons.

"Peterson is an ex-employe who didn't get the top audit job" on a permanent basis, he said. "You can draw your own conclusions."

Peterson, who had served almost a year as acting audit chief, was passed over for permanent appointment to the job a month after proposing the Pride investigation. He subsequently took his current position as acting audit chief in the Agriculture Department.

Several other current members of Knowles' staff at the Labor Department also say that Peterson told them the Pride investigation was being killed for political reasons immediately after he met with her.

"He had no reason at that point to be disgruntled or to lie because it wasn't for another month that he learned he was being passed over as chief auditor," one of these staff members said.

Wendy Rhea, a former program analyst on Knowles' staff, said in an interview that Knowles was "politically extremely sensitive."

"The auditors had already been in touch with Marion Barry," Rhea said. "He was already touchy because of a case about improper hiring by the City Council. Then we raised Youth Pride and we were told by Knowles that 'it looks like you're picking on Marion Barry and we're trying to work with him.'

"At that point, Barry was doing well with Congress and the [Carter] administration and Knowles didn't want to come up against him," Rhea said.

Peterson, contacted by The Post, declined to go beyond his affadavit regarding the Pride audit.