FRANKFURT, March 20 (Reuters) - A sharp rise in energy costs could fuel broader inflation in Europe and the European Central Bank must tighten policy if such "second-round" impacts become apparent, Bundesbank President Joachim Nagel said on Friday.
The ECB kept interest rates unchanged on Thursday but raised its inflation projections and warned about mounting price risks due to the U.S.-Israeli war on Iran, bolstering market bets for at least two rate hikes this year.
Nagel did not explicitly back
a hike, but he warned that the higher inflation rises and the longer it is expected to stay above target, the more likely it is to create dangerous second-round effects.
"Monetary policy cannot prevent a short-term rise in inflation resulting from an energy price shock," Nagel said in a speech. "However, it must act when second-round effects become apparent and longer-term inflation expectations rise above the inflation target, because then high inflation threatens to become entrenched."
Policymakers speaking on condition of anonymity said that a rate hike will need to be discussed in April if the war continues, even if a move in June appears more likely for now.
Nagel argued that the medium-term consequences of the inflation surge cannot yet be assessed, so a wait-and-see approach was appropriate, especially since the ECB can react quickly, if needed.
"We are determined to stabilize the inflation rate at 2% over the medium term," he said. "It is crucial to remain highly vigilant in monetary policy."
(Reporting by Balazs Koranyi; Editing by Hugh Lawson)
