Wenger has led Arsenal to three Premier League crowns and six FA Cup titles in his 20-year spell in charge but is starting to come under increasing pressure for what fans perceive to be a stubborn refusal to change his methods, a situation that has intensified after a 5-1 UEFA Champions League hammering at Bayern Munich.
His contract is up at the end of the season and Smith, who retired in 1995 – a year before Wenger took over – is hoping the Frenchman opts to walk away to preserve his legacy.
Smith told Sky Sports News: "The offer of a two-year contract would appear to be on the table so it’s up to him.
"[But] I do think we've come to the end of a cycle whereby it's time for a new man with a different voice and new methods. I think if he announced today or tomorrow that he was stepping down at the end of the season he would then be revered as the legend he is at the football club.
"That toxic atmosphere would be taken away in a heartbeat and it would help the team because the atmosphere would completely change at the Emirates. If he's willing to do that I don't know."
Smith also questioned some of the Arsenal players after their limp surrender at the Allianz Arena.
Long-serving left-back Kieran Gibbs, who was handed the captain's armband when Laurent Koscielny limped off after 49 minutes with the score at 1-1, was one singled out by Smith.
He added: "Quite clearly Kieran Gibbs is not a leader and in many ways he typifies the situation.
"He is happy to sign a new contract despite no real prospect of getting in the team.
"The players aren't overly pushed. Over the past few years there hasn't been that demand for improvement. It's all a bit too nice, a bit too comfortable, that's the overriding culture of the club. And that has to change if they are going to challenge for trophies."
Smith also branded Mesut Ozil 'a passenger' after another underwhelming performance back in his native Germany.
"Mesut Ozil is a fantastic player when you have the ball, dictating play. When you haven't got the ball he is a passenger," he said.
"On Wednesday, the game passed him by. I don't think many managers would have picked him. He's been hung out to dry by playing him.
"You need everyone to put in a shift when you haven't got the ball and he's not that kind of player."