I think your AC is working properly.
Here is how I would it explain the phenomenon: When you have humid air in your car's interior (your AC has been off), and you first turn on your AC, that very cold AC air mixes with the humid interior air, causing the moisture to condense as fog. That's the white stuff you see. After you have run the AC for a while, the air inside your car is now cooler and drier, and no more fog will form.
The exact same thing happened with my '97 850 last night. I too live in Connecticut, and it was mega-humid here yesterday, especially after it had just rained. I guess the test would be to try it again in drier conditions and see if the fogging still happens.
I think you may be suffering from "oh God I bought an old Volvo, what is going to break next?" paranoia. It is a side effect of frequenting this board (which I love) ;-)
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