Saudi Arabia's government will probably absorb the extra cost of a public sector wage hike without pressure on its finances or a rise in inflation, SABB bank said.

Saudi Arabia's cabinet last month approved plans to increase public sector wages by 5 percent per year for the next three years to offset the eroding effect on salaries of rising inflation. It also cut port-handling charges on imports by 50 percent for three years.

The measures, including a 10 percent increase in social insurance benefits, will cost the government about SR66 billion, SABB said in a report.

"Two key reasons lead us to believe that the additional costs will not be an onerous burden on the state," SABB chief economist John Sfakianakis wrote in the report. Nor will the salary rise "lead to any significant upward inflationary pressures in 2008," he said. 

The government continues to enjoy fiscal surplus, with the only risk a "severe" fall in oil prices, Sfakianakis said in the report. And the measures are reversible. The salary increase is retroactive to January 10.

Average inflation will probably rise to 5 percent this year, before falling to 4.7 percent next year and 4.3 percent in 2010 as bottlenecks in the economy ease and food prices subside, Sfakianakis said in the report. - Reuters