The shock announcement comes after a years-long resistance from women's rights activists, some of whom were jailed for defying the ban on female driving.
The decision risks riling religious conservatives and is part of the government's major reform drive, conceived by powerful Crown Prince Mohammed bin Salman.
"The royal decree will implement the provisions of traffic regulations, including the issuance of driving licences for men and women alike," the Saudi Press Agency said.
It added that the decree would be implemented from June 2018.
The announcement follows a dazzling gender-mixed celebration of Saudi national day at the weekend, the first of its kind, which aimed to spotlight the kingdom's reform push, analysts say, despite a backlash from religious conservatives.
Men and women danced in the streets to drums and thumping electronic music, in scenes that are a stunning anomaly in a country known for its tight gender segregation and an austere vision of Islam.
Women were also allowed into a sports stadium - previously a male-only arena - to watch a musical concert, a move that chimes with the government's "Vision 2030" plan for social and economic reform as the kingdom prepares for a post-oil era.
With more than half the country aged under 25, Prince Mohammed, the architect of Vision 2030, is seen as catering to the aspiration of the youth with an array of entertainment options and promoting more women in the workforce.
The gambit to loosen social restrictions, which had so far not translated into more political and civil rights, seeks to push criticism over a recent political crackdown out of the public eye, some analysts say.
Authorities this month arrested more than two dozen people, including influential clerics and activists, in what critics decried as a coordinated crackdown.
Ultra-conservative Saudi Arabia has some of the world's tightest restrictions on women, despite ambitious government reforms aimed at boosting female employment.
Under the country's guardianship system, a male family member - normally the father, husband or brother - must grant permission for a woman's study, travel and other activities.
But the kingdom appears to be relaxing some norms as part of the Vision 2030 plan.
Tuesday's announcement comes at a crucial time for Saudi Arabia.
The OPEC kingpin is in a battle for regional influence with arch-rival Iran, bogged down in a controversial military intervention in neighbouring Yemen and at loggerheads with fellow US Gulf ally Qatar.
The 32-year-old Crown Prince Mohammed is set to be the first millennial to occupy the throne in a country where half the population is under 25, although the timing of his ascension remains unknown.
Already viewed as the de facto ruler controlling all the major levers of government, from defence to the economy, the heir apparent is seen as stamping out traces of internal dissent before any formal transfer of power from his 81-year-old father King Salman.