When Oakland Police Capt. Pete Sarna looked around his downtown business district two years ago he saw "a lot of flophouses, a lot of panhandlers, a lot of addicts, a lot of prostitutes"--in short, an urban landscape guaranteed to scare away potential new businesses.

But an unusual experiment by the police, city officials and Oakland developers has helped reduce the fear of crime, largely by erasing the signs of decay that reinforce the impression of a dangerous and undesirable neighborhood.

The idea seems to be catching on. The Justice Department's National Institute of Justice is pouring more than $2 million into similar projects in Newark and Houston in an effort to determine whether the concept will work in different regions of the country.

Although Oakland put more officers on the street, the federal studies do not involve more police and are not attempting to reduce what officials call "hard" crime. Instead, justice institute Director James K. Stewart said, they are aimed at public perceptions that are not justified by crime statistics.

"People don't decide that someplace is a high-crime area because they see robberies in progress or autos being stolen," said Stewart, a former chief of detectives in Oakland.

"It's because they see graffiti, broken windows, panhandlers, overt prostitution, loitering and gambling on street corners . . . . You can't maintain a business if no one will come to your part of town."

But critics say a better solution would be an actual drop in break-ins and assaults.

"We've taken a fair amount of heat on this from people who say it sounds like PR," said Lawrence W. Sherman of the Police Foundation, which is running the Justice project. "The accusation is that we're Dr. Feelgood, that we're telling people they shouldn't be afraid of crime when crime is a terrible problem."

Sarna said he faced the same problem when Oakland developers complained that downtown workers, especially women, were being hassled on the street by beggars and teen-agers. Local businesses agreed to contribute $400,000 a year, which helped Sarna increase the number of officers on foot patrol from 12 to 30 and to buy horses for a small mounted patrol.

Since then, Sarna said, downtown burglaries and assaults have declined by as much as 30 percent, prostitutes are plying their trade elsewhere and several welfare hotels have shut down.

"You get an immediate deterrent impact--I call it the scarecrow effect," Sarna said. "The cop is out there questioning people, talking to teen-agers, solving problems, getting street people into a facility. It's reassuring--people love to see cops."

Sarna has encouraged commuters to report street incidents on index cards distributed to local offices, and he has urged architects to design buildings without obstructed entrances and alleys, which are often used by muggers.

"We were faced with more of a perception problem than a crime problem," said Bill Bodrug, vice president of Bramalea Ltd., an Oakland developer that is a major contributor to the police patrols. "We just signed IBM to a major lease, and they wouldn't have come if we didn't have this program in place."

In both Newark and Houston, certain city services will be concentrated in four neighborhoods and compared with a fifth area that will receive no special effort.

Newark police plan to set up storefronts, hand out newsletters and go door-to-door in residential neighborhoods in an effort to improve community relations. Despite budget cutbacks, the mayor's office has asked other city agencies to focus attention on the target areas.

The courts have agreed to sentence some juvenile delinquents to clean up vacant lots in their neighborhoods, rather than placing the youths on probation. The schools will keep recreation centers open at night to reduce loitering on street corners. Even the sanitation department plans to pitch in.

"We're intensifying the delivery of city services so that broken windows will be repaired, dirty streets will be cleaned up and abandoned buildings will be torn down," said Tony Pate, a Police Foundation official working in Newark.

Small foot patrols are not feasible in a sprawling city like Houston, so police there will rely on telephone contacts, mailings and community meetings. Houston Police Chief Lee Brown said he plans to reveal further details today.

Pate said the Justice Department is not paying for direct services to avoid criticism "that a program might succeed purely because the federal government was providing a massive infusion of funds."