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Summers as next Fed chief? Brace for wild market swings

Lawrence Summers
Andrew Harrer | Bloomberg | Getty Images
Lawrence Summers

President Barack Obama may be leaning toward former Treasury Secretary Larry Summers as the next head of the Federal Reserve, recent press reports say. But such a move could jolt markets, which have been expecting the dovish Janet Yellen to be the next central bank chief, analysts say.

"If Summers is appointed, then we many see markets correct as tapering will be expected to happen more quickly," said David Forrester, G10 foreign exchange and fixed income strategist at Macquarie Bank, referring to an unwinding of the Fed's monetary stimulus program for the economy.

Federal Reserve chairman Bernanke is expected to step down when his term ends in January. Yellen, vice chair of the Fed's Board of Governors, has been tipped as Bernanke's successor. But according to recent press reports, U.S. President Barack Obama may be leaning towards nominating Summers as the next head of the Fed.

(Read more: In Fed chair race, Obama's loyalty to Summers could be key)

According to a New York Times article last week, Obama is keen to have a Fed chairman who understands the importance of keeping inflation in check. Yellen has been quoted in the past saying reducing unemployment should be the primary focus of the Fed, even if that causes inflation to rise slightly above target.

"Yellen is a Fed insider and was part of the Federal Open Market Committee (FOMC) when QE [quantitative easing] was being implemented, while Summers questions the efficacy of QE," said Forrester, adding that there was likely to be a structural shift in U.S. monetary policy if Summers is appointed as next Fed chairman.

(Read more: Bernanke: Too early to tell when tapering will start)

Talk of an unwinding in the Fed's $85 billion-a-month bond-buying program unsettled markets in May and June, with stock and bond markets taking a beating, while the dollar strengthened.

Forrester said that if Summers is appointed, a similar sell-off could ensue as the former Treasury Secretary is likely to push ahead with plans to unwind Fed stimulus.

"U.S. T-bills and the dollar will see the strongest reaction, with Treasury yields rising and the dollar strengthening," said Forrester, adding that assets such as the Australian dollar and emerging markets could also suffer heavily.

(Read more: Likely candidates to succeed Fed's Bernanke in 2014)

Broad market expectations are that Obama will pick Yellen for the top job at the Fed, with her experience and gender working in her favour. Obama has been under pressure to nominate more women to senior positions.

A CNBC survey last week found that 70 percent of 40 participants in a Wall Street survey expected Yellen to become the next Fed chief. Just 25 percent believe Summers will be picked.

(Read more: Obama 'essentially fired' Bernanke: Meyer)

"In the short term it [the debate over who gets Bernanke's role] absolutely matters and until the market gets comfortable with who the new Fed governor is and their style of communication, it will be an important part of market dynamics," said Richard Yetsenga, head of global markets research at ANZ bank.

"If it's not Yellen (who is known), then certainty over the FOMC Chair, will be replaced by uncertainty about exactly how they will operate. I would expect this to continue to affect all financial markets," he added.

—By CNBC's Katie Holliday: Follow her on Twitter: @hollidaykatie

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