UPDATE 3-Saudi may revalue to avoid Gulf split, paper says

(Adds UAE wage hike, prices, background, details of report)

By Souhail Karam and Daliah Merzaban

RIYADH/DUBAI, Nov 20 (Reuters) - Saudi Arabia may be considering its first revaluation in 21 years to help bridge a divide with oil-producing neighbours worried about pegs to the tumbling dollar, al-Riyadh newspaper reported on Tuesday.

The world's largest oil exporter was still unlikely to change a riyal exchange rate set in 1986, raising the risk that the United Arab Emirates and Qatar would switch to currency baskets, the paper quoted Abdul-Aziz al-Uwaisheg as saying. Uwaisheg, a Saudi national, is head of studies and economic integration at the General Secretariat of the Gulf Cooperation Council, a grouping of six states preparing for monetary union as early as 2010.

Kuwait threw the monetary union plans into disarray in May by switching its dollar peg to a currency basket, and markets are betting other central banks will follow suit, unable to maintain their currency pegs while controlling inflation.

The Qatari riyal QAR= hit a five-year high on Tuesday as Gulf currencies extended a rally that started when a source familiar with Saudi policy told Reuters on Friday Riyadh could consider a revaluation to keep monetary union plans alive.

Growing expectations of a Gulf shift away from the dollar have weighed on the U.S. currency, partly because it could signal diminishing demand for U.S. assets in a region where central banks and sovereign wealth funds hold $1.2 trillion.

"Saudi Arabia might have started a study to change the riyal's exchange rate but it probably does not want to officially announce these studies to avoid creating concern in markets until a final decision is made," Uwaisheg said, according to al-Riyadh.

Uwaisheg confirmed he had talked to the newspaper but said the reporter had misquoted him.

Al-Riyadh's economic editor, Saleh al-Zaid, told Reuters he had a recording of the conversation and was standing by the story. Uwaisheg had not asked for a retraction, he said.

"Gulf states will not stand still if the dollar continues to decline and Saudi Arabia sticks to its policy," Al-Riyadh quoted Uwaisheg as saying.

EXCHANGE-RATE REFORM

UAE Central Bank Governor Sultan Nasser al-Suweidi said last week he was under growing social and economic pressure to follow Kuwait's lead, although he would only act in concert with Saudi Arabia and three other states preparing for monetary union.

The UAE, where inflation hit a 19-year high of 9.3 percent last year, plans to raise wages of federal government employees by 70 percent from next year, the state news agency said.

Among Gulf states, the UAE has been hardest hit by the dollar's slide to a record low against the euro, a 26-year trough against sterling and an 18-month low against the yen this month.