A Civil Aeronautics Board administrative law judge yesterday recommended approval of the proposed merger between North Central Airlines and Southern Airways.

In a decision that will be reviewed by the full CAB, Joseph J. Saunders found the proposed combination would not be anticompetitive and would not adversely affect service to small communities.

Judge Saunders said the merged airline would be a stronger competitor than either of the airlines alone, creating new competition especially for Delta Air Lines, Northwest Airlines and United Airlines.

The North Central-Southern merger case is the first of several proposed airline combinations submitted to the board for approval to emerge from the hearing process.

The case also involves smaller airlines and is less controversial than the others, in which National Airlines is being sought by Texas International Airlines, Pan American World Airways, and Eastern Airlines, and Continental and Western Airlines are seeking to merge.

Under the proposed North Central-Southern merger -- the only proposed airline merger so far to win the Justice Department's go-ahead -- Southern would be merged into North Central, forming a new company called Republic Airlines. Each share of North Central common would be converted into one share of Republic common, while each share of Southern common would be converted into between 1.8 and 2.2 shares of Republic common stock, depending on Southern's 1978 earnings.

In addition to needing CAB approval, the proposed merger also needs President Carter's okay.

The two carriers do not compete directly on any routes, although they serve many of the same airports. North Central, based in Minneapolis, has a routes system primarily in the northern part of the country, but it has recently received new route authority to Bermuda, the Caribbean and cities in the south and west. Southern, based in Atlanta, has a route structure concentrated in the Deep South.

Meanwhile, tensions among the suitors of National Airlines grew as they continued to trade potshots. This week, National said that it has established an auction procedure to determine whether Pan Am or Eastern would be the successful acquirer of National should both of them obtain regulatory approval.

The procedure is contained in an amendment to National's agreement to merge with Pan Am at $41 a share. It provides that Pan Am will either match or exceed the $50-per-share offer made by Eastern or will permit National to merge with Eastern.

If Pan Am elects to match Eastern's initial offer, the amendment outlines an auction procedure of up to five rounds of bids during a 48-hour period and calls for Eastern to bid first in each round. Under the procedure, National may merge with Eastern unless Pan Am matches or exceeds each Eastern bid. If Pan Am matches or exceeds each Eastern bid, Pan Am and National will merge at Pan Am's highest bid.

Two weeks ago, Frank Borman, Eastern's president, had charged that National was trying to establish a "rigged" bidding procedure that favored Pan Am's bid at Eastern's expense by giving Pan Am the last word in an earlier proposed procedure.

In another development, William T. Seawell, Pan Am's chairman, accused Borman of misleading the public by claiming that Eastern's proposed takeover of National would not have anticompetitive effects.