What was going on when I was born?

Attorney General William French Smith said today that Richard V. Allen had not acted illegally in accepting three watches from Japanese associates or in omitting information from his financial disclosure form, and that a special prosecutor would not be appointed to conduct an independent inquiry. Mr. Smith's announcement said that the Justice Department had closed its investigation of Mr. Allen, who is on administrative leave as President Reagan's national security adviser. At the same time, however, White House officials said that two of Mr. Reagan's top advisers, James A. Baker 3d, the White House chief of staff, and Michael K. Deaver, the deputy chief of staff, were still suggesting that Mr. Allen be dismissed. The two advisers were said to believe that Mr. Allen was a political liability and had not proven to be a good administrator.

Attorney General William French Smith asked yesterday that a special prosecutor be appointed to investigate an allegation made against Raymond J. Donovan, the Secretary of Labor. Mr. Donovan was said to have witnessed the payment of a bribe to a union official in 1977, when he was an executive of a construction company in New Jersey. Mr. Smith's request was sent to a special three-judge panel set up under the 1978 Ethics in Government Act. The act requires the Justice Department to conduct a preliminary investigation of any allegation made against a high government official, and then refer the allegation to the special court if it warrants further investigation.

Sales by the Big Three auto makers dropped 22.5 percent below levels of a year earlier in the middle 10 days of December. It is likely 1981 will be the worst sales year since 1961. (Page A1.) An appeals court struck blows to both Mobil and U.S. Steel in their bids for Marathon Oil. The Federal court said Mobil would be likely to violate antitrust laws if it acquired Marathon. Separately, it ruled that two options granted U.S. Steel by Marathon were illegal. Nevertheless, U.S. Steel might be able to proceed with its tender offer in a week or two. (D1.)

At Our Lady of Loreto Roman Catholic Church, just off the Bowery, a good day is measured in cups of steaming coffee served to hundreds of homeless men and women. At St. Peter's Lutheran Church, tucked in a corner of the Citicorp Complex, the mission is ''cultural and spiritual renewal for the whole city,'' according to the pastor, the Rev. John Damm. At the Abyssinian Baptist Church in Harlem, Dr. Samuel D. Proctor believes the business of the church is hope. ''Churches thrive because people will not give up on hope,'' he said. ''We're not preaching some placebo, but relating people to fundamental truths about life.''

The Securities and Exchange Commission yesterday accused two California businessmen of making almost half a million dollars' profit from trading in options after obtaining advanced knowledge of a proposed takeover of Amax Inc. by the Standard Oil Company of California. However, the commission's complaint was immediately terminated when the two men, Thomas C. Reed, a former Secretary of the Air Force, and Frank M. Woods, agreed to establish escrow accounts to pay off any judgments against them resulting from private litigation. Their agreement conformed with a previously negotiated stipulation. Mr. Reed, president of the Quaker Hill Development Corporation, a San Rafael, Calif., land development concern, is the son of Gordon W. Reed of New York, a member of the board of directors at Amax. Last March, an Amax spokesman had said that Gordon Reed had ''informed no one, including his son'' about the Amax acquisitin proposal before the offer was formally announced on March 5 and Amax stock rose quickly in price.

The sharp deterioration in Mexico's financial situation this year has provoked conflicting responses of delight and nervousness among foreign bankers who have been helping to pay for this country's oil-based economic boom. There is hope that Mexico will now be obliged to pay increased interest on its loans, becoming a more profitable market for foreign banks. But there is also fear that the Mexican peso may be heading for a major devaluation. ''People don't know whether to smile or to weep,'' said the representative of one large New York bank, who asked that his name not be used. ''The Government is upbeat, the local business community is downbeat and bankers are just holding their breath.''

The following dispatch is based on information reaching The New York Times from Poland. Normal communications with The Times's Warsaw bureau chief, John Darnton, have been barred by the authorities there since Dec. 14. It is clear that the workers' resistance to martial law and to suppression of their newly won civil and union rights has been more widespread and persistent than the military authorities anticipated. According to unofficial but knowledgeable sources, many more than 5,000 people - the figure acknowledged by the authorities - have been arrested or interned since the imposition of martial law Dec. 13. Conditions vary, but many are being held under conditions of little food, clothing or heating in temperatures as low as 10 degrees, these sources say. The information comes from members of a large, semiunderground volunteer effort aimed at bringing relief to those in the prisons and detention camps, where they say 10,000, and perhaps as many as 20,000 people, are being held.

The state's Commissioner of Correctional Services said today that he would refuse to comply with an order by a Federal judge to speed the transfer of state prisoners held in New York City jails, even if the refusal put him in contempt of court. The Commissioner, Thomas A. Coughlin 3d, said at a news conference that the order by Judge Morris E. Lasker of Federal District Court, issued Tuesday in New York City, would force him to create unsafe conditions in the state's prisons. The State Correctional Services Department says its prisons, which now contain 25,600 inmates, are already 12 percent over capacity. ''My responsibility is to run safe facilities,'' Mr. Coughlin said in an interview. ''I can't do that and comply with his order. If that's contempt, I'm sorry about it.

In Afghan war, quick fortunes and thin diets A2 Soviet said to plan more troops and copters for Afghanistan A3 Around the World A4 Syrian Cabinet official expects U.N. sanctions against Israel A5 Common Market steps up denun- ciation of Warsaw A9 Pope still urging talks to solve Polish crisis A9 Poland becoming a growing eco- nomic burden on Soviet A11 Government/Politics Attorney General asks for special prosecutor in Donovan case B1 Byrne and Kean support Govern- ment pay raises B2 General Around the Nation A12 Jury awards ex-activists $711,000 in damages A12 Nun is mugged and badly hurt near a Bronx convent B2 HOLIDAY WEEKEND Tomorrow is Christmas. Following are holiday schedules: Parking - Alternate-side regulations suspended; Sunday regulations in effect. Sanitation - No collections; no street cleaning. Government offices - Closed. Post offices - Closed; only special delivery and express mail delivered. Banks - Closed. Stock and commodity markets -Closed. Transportation - Subway and buses on Sunday schedules; Long Island Rail Road and Conrail on holiday schedules. Libraries - Closed. Public schools - Closed.

A Federal district judge ruled today that Congress violated the Constitution when it extended the deadline for ratification of the proposed equal rights amendment. In effect, his ruling meant that the amendment, which prohibits discrimination on the basis of sex, died on March 29, 1979, the original deadline voted by Congress. Judge Marion J. Callister also ruled that individual states were not bound by their original votes to ratify the amendment but may rescind their actions at any point before three-quarters of the states vote to ratify. The National Organization for Women, one of the defendants in the case, announced immediately in Washington that it would appeal the decision directly to the United States Supreme Court. (Page A14.)

Here we come a-wassailing Among the leaves so green Here we come a wandering So fair to be seen Love and joy come to you, And to you your wassail too, And God bless you and send you A happy new year Traditional English carol WASSAILING: it is a word that conjures up Christmas-card visions - top-hatted men with long scarves carrying lanterns, small children perched on their shoulders; women in bonnets and bustles, and sparkling snow crunching underfoot as the carolers stand outside a Georgian mansion bright with holly berries. Light streams from the open doors, and a bowl of Christmas cheer awaits on the Chippendale sideboard. Somewhere, faint church bells are heard. All the carol singers have perfect pitch, pink cheeks and glad hearts.

Ida Levin, the 18-year-old protegee of Rudolf Serkin, who was seen recently on public television's ''In Performance at the White House,'' will be concertmistress and soloist in Bach's Violin Concerto in E at midnight tonight in Alexander Schneider's annual Christmas Eve event at Carnegie Hall. Each year, some 65 musicians of high school and college age, chosen by audition from all over this country and Europe, spend a working holiday in New York - 11 days of intensive rehearsals and chamber-music workshops under the direction of Mr. Schneider and other artists. Then they give two concerts at Carnegie Hall and one at the Kennedy Center in Washington. Tonight's performance is the first and will include three concertos by Bach and one by Corelli. The other Carnegie Hall performance will be Tuesday at 8 P.M. Tickets are $3 to $7 and can be charged by calling 247-7459.