An O2 sensor as employed on volvos except for the bendix fuel system models outputs a voltage that is an indicator of exhuast gas oxygen level. The oxygen level is a direct indicator of the fuel mixture's proximity to the stoichiometric (ideal fuel to air ratio that burns cleanest with lowest emissions and most power) setting. If the mixture goes towards rich then the oxygen level will be low and the sensor will have a higher voltage (.8 V) and if it goes towards lean the sensor will have a low voltage (.05-.1V). This is due to the sensor producing higher voltage when oxygen is absent and higher voltage when oxygen is present.

What does this mean?

The fuel injection computer is a relatively simple number cruncher that takes in sensor readings and produces an injector opening period that is used to operate the injectors every time that they fuel into port. This occurs typically every revolution on systems that are "batch" injected and every other revolution on sequential, individually operated injector systems. This will get the mixture real close if it is engineered correctly but will not get it close enough for a three gas catalytic converter to do a really efficient job of getting the exhaust emissions level really low. To do this you need to give the computer a feedback as to its mixture and have it correct the opening period accordingly. It is not possible to get the mixture "fixed" this way. It is a constant, ongoing correction once the engine gets warmed up and sensor is hot and operating (the process by which it works requires it to be 600 deg. F). The best mixture correction is obtained when the voltage is continually oscillating back and forth between its high and low levels indicating that the computer has found that range where it is walking the line between slightly above and slightly below that stoichiometric mixture level.

How do you tell if it is bad?

attach a volt meter to the lead from it and check that it goes to low voltage in less than 2 seconds when a vacuum line is pulled off. It should go to high voltage in less than 2 seconds when you pinch hose behind fuel pressure regulator. Leave the wire from sensor attached to wire to harness while doing this. It should do this idling or at engine speeds above idle while doing this test.