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Yellen, an advocate of the central bank's aggressive actions to stimulate economic growth through low interest rates and large-scale bond purchases, would replace Fed Chairman Ben Bernanke, whose second term ends on January 31.
The nomination would put Yellen on course to be the first woman to lead the institution and the first to head a central bank in any Group of Seven industrial nation.
At a White House ceremony where Obama announced her nomination, Yellen said she would promote maximum employment, stable prices, and a sound financial system as the top US central banker and noted there was more to do to ensure people who were out of work could find jobs.
"While we have made progress, we have farther to go. The mandate of the Federal Reserve is to serve all the American people, and too many Americans still can't find a job and worry how they'll pay their bills and provide for their families," the 67-year-old former professor said.
Yellen will provide continuity with the policies the Bernanke-led Fed has pursued, and is likely to move cautiously in reining in the extensive monetary stimulus the central bank put in place to shore up the world's largest economy.
Her fealty to the extraordinary policy tactics the Fed employed in an effort to beat back the 2007-2009 recession and spur faster job growth concerns some Republican who fear the measures will unleash inflation or fuel asset bubbles.
Despite such opposition, Yellen has strong support from fellow Democrats and is expected to be confirmed by the Senate.
"Janet is exceptionally well qualified for this role," Obama said with a beaming Yellen by his side. "She doesn't have a crystal ball, but what she does have is a keen understanding about how markets and the economy work, not just in theory but also in the real world. And she calls it like she sees it."
EASY MONEY, CONTINUITY
The US central bank has held interest rates near zero since late 2008. It has also roughly quadrupled its balance sheet to about $3.7 trillion through three rounds of massive bond purchases to press down longer-term borrowing costs.
"Yellen's nomination is a clear signal that the highly accommodative monetary policy stance will likely remain in place," wrote Barclays economist Michael Gapen in New York.
While analysts said Yellen's policy approach should be supportive for stock markets that have come to rely on easy money from the Fed, the market reaction on Wednesday did not provide a clear read on investor sentiment.
Stocks closed modestly higher, lifted in part by rising hopes that Congress could break a political impasse that has led to a partial government shutdown and now threatens a possible default. The US Treasury has warned it could run out of cash quickly to pay the nation's bills if lawmakers do not raise the government's $16.7 trillion debt ceiling soon.
The Fed is currently buying bonds at a monthly pace of $85 billion. It surprised investors in September when it delayed an anticipated reduction in its purchases.
Economists, watching tepid signals on growth and hiring, wonder if a decision to scale back might be delayed until Yellen is in charge next year, but minutes of the Fed's September meeting released on Wednesday showed policymakers were close to acting.
Obama settled on Yellen after his former economic adviser Lawrence Summers withdrew from consideration in the face of fierce opposition within the president's own Democratic Party that raised questions about his chances of congressional confirmation. Summers would have been expected to pull back the Fed's support for the economy more quickly.
With markets jittery about a potential US default, Obama appeared to want to provide reassurance with his words about Yellen. He noted her ability to reach consensus with colleagues - something Summers' opponents say he lacked - and her success at predicting the risks of a major recession before it happened.
"Given the urgent economic challenges facing our nation, I urge the Senate to confirm Janet without delay," Obama said. "I am absolutely confident that she will be an exceptional chair of the Federal Reserve."
"LIBERAL SCHOOL OF THOUGHT"
Yellen's focus on efforts to boost growth has riled some Republican lawmakers who think the Fed has already pumped too much money into the economy.
"Yellen subscribes to the liberal school of thought that the best way to handle our nation's fiscal challenges is to throw more money at them," said Senator John Cornyn of Texas, the body's No. 2 Republican.
The Republican opposition could lead to a tense hearing when Yellen goes before the Senate Banking Committee, which needs to weigh her nomination before sending it to the full Senate for a final confirming vote.
In the end, however, Yellen is expected to gain enough support to secure the 60 votes needed to overcome any procedural hurdles. Democrats control the chamber 54-46.
Senator Susan Collins, a Maine Republican, called Yellen "clearly a very experienced, qualified individual."
"Right now, I am favorably disposed toward her but I do want to wait until the hearing to see how she answers specific questions," Collins said.
Yellen could be expected to abide by, if not strengthen, the Fed's stated commitment to keep interest rates steady at least until the US jobless rate hits 6.5%, as long as inflation does not threaten to pierce 2.5%. The jobless rate stood at 7.3% in August.
Yellen, who has long argued that the Fed should tolerate slightly higher inflation if that is the cost of fighting high unemployment, has never dissented on a Fed policy decision.
But she also has not shied away from advocating rate rises if she feels the situation calls for it. In 1996, after then-Fed Chairman Alan Greenspan had repeatedly put off raising rates, she and a colleague went to him to argue that the central bank was at risk of courting inflation.
"Janet is exceptionally well qualified for the position, with stellar academic credentials and a strong record as a leader and a policymaker," Bernanke said in a statement.
