(Updates with market reaction)
ISLAMABAD, Pakistan, June 24 (Reuters) - Pakistan intends to put former military dictator Pervez Musharraf on trial on charges of high treason, Prime Minister Nawaz Sharif said on Monday, in a move that shocked investors and appeared likely to anger the powerful armed forces.
The charges being considered against Musharraf relate to his declaration of a state of emergency in 2007 and the suspension of constitutional rights that followed.
In Pakistan, the maximum penalty for treason is death.
"Musharraf will have to answer for his guilt before the court," Sharif said in parliament.
The government "firmly subscribes to the view that the holding in abeyance of the constitution on 3rd November 2007 constituted an act of high treason", he said, reading from a statement simultaneously presented to the Supreme Court.
Musharraf ousted Sharif in a coup 14 years ago, cutting short his second term as prime minister. Sharif was then hounded into exile in Saudi Arabia.
Sharif's decision to move against Musharraf suggests he has decided to be more assertive than the last government towards the military, which has ruled for much of Pakistan's 66-year history.
"Notwithstanding the fact that the prime minister has borne the brunt of Musharraf's brazen coup, he wishes to assure both this august court and the people of Pakistan that he will act according to the highest standards of justice and follow the due process of law," Sharif read from the statement.
Pakistan's benchmark share index plunged 3 percent on concerns about short-term political stability, and might have fallen more if the Karachi exchange had not suspended trading in major shares that had fallen 5 percent.
"Considering the enormity of the government decision, some investors feared the market could crash," said securities analyst Khurram Shahzad of Arif Habib Group.
Musharraf, a key ally of president George W. Bush in the early years of Washington's "war on terror", himself spent almost four years in self-imposed exile. He returned to Pakistan hoping to contest elections in May, but was put under house arrest.
His detention appeared to break an unwritten rule that the top ranks of the military are untouchable, even after they have retired. The current army chief has suggested the military is unhappy with Musharraf's treatment.
Musharraf's spokesman called Sharif's announcement "reckless and ill conceived", saying it was designed to distract attention from more pressing national issues.
"It can result in unnecessary tension amongst the various pillars of state and possibly destabilise the country," the spokesman, Raza Bokhari, told reporters.
Accusations that Musharraf failed to provide enough security to prevent the assassination of former prime minister Benazir Bhutto in 2007 led to his house arrest. He denies wrongdoing in all the cases brought against him.
Last month's election brought Sharif back to office for an unprecedented third time and provided the first transition between two civilian governments in Pakistan's turbulent history. (Additional reporting by Syed Raza Hassan; Reporting by Frank Jack Daniel; Editing by Clarence Fernandez and Kevin Liffey)