European Central Bank

European Central Bank

Overview
The European Central Bank is the institution
Institutions of the European Union
The European Union is governed by seven institutions. Article 13 of Treaty on European Union lists them in the following order: the European Parliament, the European Council, the Council of the European Union, the European Commission, the Court of Justice of the European Union, the European...

 of the European Union
European Union
The European Union is an economic and political union of 27 independent member states which are located primarily in Europe. The EU traces its origins from the European Coal and Steel Community and the European Economic Community , formed by six countries in 1958...

 (EU) that administers the monetary policy
Monetary policy
Monetary policy is the process by which the monetary authority of a country controls the supply of money, often targeting a rate of interest for the purpose of promoting economic growth and stability. The official goals usually include relatively stable prices and low unemployment...

 of the 17 EU Eurozone
Eurozone
The eurozone , officially called the euro area, is an economic and monetary union of seventeen European Union member states that have adopted the euro as their common currency and sole legal tender...

 member states
Member State of the European Union
A member state of the European Union is a state that is party to treaties of the European Union and has thereby undertaken the privileges and obligations that EU membership entails. Unlike membership of an international organisation, being an EU member state places a country under binding laws in...

. It is thus one of the world's most important central bank
Central bank
A central bank, reserve bank, or monetary authority is a public institution that usually issues the currency, regulates the money supply, and controls the interest rates in a country. Central banks often also oversee the commercial banking system of their respective countries...

s. The bank was established by the Treaty of Amsterdam in 1998, and is headquartered in Frankfurt
Frankfurt
Frankfurt am Main , commonly known simply as Frankfurt, is the largest city in the German state of Hesse and the fifth-largest city in Germany, with a 2010 population of 688,249. The urban area had an estimated population of 2,300,000 in 2010...

, Germany. The current President of the ECB is Mario Draghi
Mario Draghi
Mario Draghi is an Italian banker and economist who succeeded Jean-Claude Trichet as President of the European Central Bank on 1 November 2011...

, former governor of the Bank of Italy
Banca d'Italia
Banca d'Italia is the central bank of Italy and part of the European System of Central Banks. It is located in Palazzo Koch, Roma, via Nazionale...

.

The primary objective of the European Central Bank is to maintain price stability within the Eurozone
Eurozone
The eurozone , officially called the euro area, is an economic and monetary union of seventeen European Union member states that have adopted the euro as their common currency and sole legal tender...

, which is the same as keeping inflation low.
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Encyclopedia
The European Central Bank is the institution
Institutions of the European Union
The European Union is governed by seven institutions. Article 13 of Treaty on European Union lists them in the following order: the European Parliament, the European Council, the Council of the European Union, the European Commission, the Court of Justice of the European Union, the European...

 of the European Union
European Union
The European Union is an economic and political union of 27 independent member states which are located primarily in Europe. The EU traces its origins from the European Coal and Steel Community and the European Economic Community , formed by six countries in 1958...

 (EU) that administers the monetary policy
Monetary policy
Monetary policy is the process by which the monetary authority of a country controls the supply of money, often targeting a rate of interest for the purpose of promoting economic growth and stability. The official goals usually include relatively stable prices and low unemployment...

 of the 17 EU Eurozone
Eurozone
The eurozone , officially called the euro area, is an economic and monetary union of seventeen European Union member states that have adopted the euro as their common currency and sole legal tender...

 member states
Member State of the European Union
A member state of the European Union is a state that is party to treaties of the European Union and has thereby undertaken the privileges and obligations that EU membership entails. Unlike membership of an international organisation, being an EU member state places a country under binding laws in...

. It is thus one of the world's most important central bank
Central bank
A central bank, reserve bank, or monetary authority is a public institution that usually issues the currency, regulates the money supply, and controls the interest rates in a country. Central banks often also oversee the commercial banking system of their respective countries...

s. The bank was established by the Treaty of Amsterdam in 1998, and is headquartered in Frankfurt
Frankfurt
Frankfurt am Main , commonly known simply as Frankfurt, is the largest city in the German state of Hesse and the fifth-largest city in Germany, with a 2010 population of 688,249. The urban area had an estimated population of 2,300,000 in 2010...

, Germany. The current President of the ECB is Mario Draghi
Mario Draghi
Mario Draghi is an Italian banker and economist who succeeded Jean-Claude Trichet as President of the European Central Bank on 1 November 2011...

, former governor of the Bank of Italy
Banca d'Italia
Banca d'Italia is the central bank of Italy and part of the European System of Central Banks. It is located in Palazzo Koch, Roma, via Nazionale...

.

The primary objective of the European Central Bank is to maintain price stability within the Eurozone
Eurozone
The eurozone , officially called the euro area, is an economic and monetary union of seventeen European Union member states that have adopted the euro as their common currency and sole legal tender...

, which is the same as keeping inflation low. The Governing Council defined price stability as inflation of around 2%. (Harmonised Index of Consumer Prices
Harmonised Index of Consumer Prices
The Harmonised Index of Consumer Prices is an indicator of inflation and price stability for the European Central Bank . It is a consumer price index which is compiled according to a methodology that has been harmonised across EU countries. The euro area HICP is a weighted average of price...

) Unlike, for example, the United States Federal Reserve Bank, the ECB has only one primary objective with other objectives subordinate to it.

The key tasks of the ECB are to define and implement the monetary policy
Monetary policy
Monetary policy is the process by which the monetary authority of a country controls the supply of money, often targeting a rate of interest for the purpose of promoting economic growth and stability. The official goals usually include relatively stable prices and low unemployment...

 for the Eurozone, to conduct foreign exchange operations, to take care of the foreign reserves of the European System of Central Banks and promote smooth operation of the financial market infrastructure under the Target payments system
TARGET
TARGET was an interbank payment system for the real-time processing of cross-border transfers throughout the European Union. It included 16 national real-time gross settlement systems and the ECB payment mechanism...

 and being currently developed technical platform for settlement of securities in Europe (TARGET2 Securities
TARGET2 Securities
T2S will be the future IT platform for the settlement of almost all bonds and equities that are traded in Europe. The project was initiated in 2006 and is currently under development. Based on the latest announcements it is scheduled to go-live in 2015...

).
Furthermore, it has the exclusive right to authorise the issuance of euro banknotes
Euro banknotes
Euro banknotes are the banknotes of the euro, the currency of the eurozone and have been in circulation since 2002. They are issued by the national central banks of the euro area or the European Central Bank...

. Member states can issue euro coins
Euro coins
There are eight euro coin denominations, ranging from one cent to two euros . The coins first came into use in 2002. They have a common reverse, portraying a map of Europe, but each country in the eurozone has its own design on the obverse, which means that each coin has a variety of different...

 but the amount must be authorised by the ECB beforehand (upon the introduction of the euro, the ECB also had exclusive right to issue coins).

On 9 May 2010, the 27 member states of the European Union
European Union
The European Union is an economic and political union of 27 independent member states which are located primarily in Europe. The EU traces its origins from the European Coal and Steel Community and the European Economic Community , formed by six countries in 1958...

 agreed to incorporate the European Financial Stability Facility. The EFSF’s mandate is to safeguard financial stability in Europe by providing financial assistance to Eurozone Member States.

The bank must also co-operate within the EU and internationally with third bodies and entities. Finally it contributes to maintaining a stable financial system and monitoring the banking sector. The latter can be seen, for example, in the bank's intervention during the 2007 credit crisis when it loaned billions of euros to banks to stabilise the financial system.

Although the ECB is governed by European law directly and thus not by corporate law applying to private law companies, its set-up resembles that of a corporation in the sense that the ECB has shareholders and stock capital. Its capital is five billion euro which is held by the national central banks of the member states as shareholders. The initial capital allocation key was determined in 1998 on the basis of the states' population and GDP, but the key is adjustable. Shares in the ECB are not transferable and cannot be used as collateral.

Throughout 2011 various member states of the European Union showed themselves to be increasingly unable to meet financial commitments. At its heart, the crisis of the European currency unit or ECU is similar to almost any other financial crisis, including the crisis of 2008. Key concepts to understanding the crisis include collateral
Collateral (finance)
In lending agreements, collateral is a borrower's pledge of specific property to a lender, to secure repayment of a loan.The collateral serves as protection for a lender against a borrower's default - that is, any borrower failing to pay the principal and interest under the terms of a loan obligation...

, assets, and liabilities.

The bank is based in Frankfurt
Frankfurt
Frankfurt am Main , commonly known simply as Frankfurt, is the largest city in the German state of Hesse and the fifth-largest city in Germany, with a 2010 population of 688,249. The urban area had an estimated population of 2,300,000 in 2010...

, the largest financial centre in the Eurozone
Eurozone
The eurozone , officially called the euro area, is an economic and monetary union of seventeen European Union member states that have adopted the euro as their common currency and sole legal tender...

 (although not the largest in the European Union
European Union
The European Union is an economic and political union of 27 independent member states which are located primarily in Europe. The EU traces its origins from the European Coal and Steel Community and the European Economic Community , formed by six countries in 1958...

). Its location in the city is fixed by the Amsterdam Treaty
Amsterdam Treaty
The Amsterdam Treaty, officially the Treaty of Amsterdam amending the Treaty of the European Union, the Treaties establishing the European Communities and certain related acts, was signed on 2 October 1997, and entered into force on 1 May 1999; it made substantial changes to the Maastricht Treaty,...

 along with other major institutions. In the city, the bank currently occupies Frankfurt's Eurotower
Eurotower (Frankfurt)
The Eurotower is a skyscraper located in the Bankenviertel of Frankfurt, Germany.The tower is tall, with 40 floors and 78.000 m² of office space...

 until its purpose-built headquarters are built.

The owners and shareholders of the European Central Bank are the central banks of the 27 member states of the EU.

History



The European Central Bank is the de facto successor of the European Monetary Institute
European Monetary Institute
The European Monetary Institute was the forerunner of the European Central Bank , operating between 1994 and 1997.-History:The EMI was created 1 January 1994 to oversee the second stage in the creation of monetary union. The EMI itself took over from the earlier European Monetary Cooperation Fund...

 (EMI). The EMI was established at the start of the second stage of the EU's Economic and Monetary Union
Economic and Monetary Union of the European Union
The Economic and Monetary Union is an umbrella term for the group of policies aimed at converging the economies of members of the European Union in three stages so as to allow them to adopt a single currency, the euro. As such, it is largely synonymous with the eurozone.All member states of the...

 (EMU) to handle the transitional issues of states adopting the euro and prepare for the creation of the ECB and European System of Central Banks
European System of Central Banks
The European System of Central Banks is composed of the European Central Bank and the national central banks of all 27 European Union Member States.-Functions:...

 (ESCB). The EMI itself took over from the earlier European Monetary Co-operation Fund (EMCF).


The ECB formally replaced the EMI on 1 June 1998 by virtue of the Treaty on European Union (TEU, Treaty of Maastricht), however it did not exercise its full powers until the introduction of the euro
Introduction of the euro
The euro came into existence on 1 January 1999, although it has been a goal of the European Union and its predecessors since the 1960s. After tough negotiations, particularly due to opposition from the United Kingdom, the Maastricht Treaty entered into force in 1993 with the goal of creating...

 on 1 January 1999, signalling the third stage of EMU. The bank was the final institution needed for EMU, as outlined by the EMU reports of Pierre Werner and President
President of the European Commission
The President of the European Commission is the head of the European Commission ― the executive branch of the :European Union ― the most powerful officeholder in the EU. The President is responsible for allocating portfolios to members of the Commission and can reshuffle or dismiss them if needed...

 Jacques Delors
Jacques Delors
Jacques Lucien Jean Delors is a French economist and politician, the eighth President of the European Commission and the first person to serve three terms in that office .-French Politics:...

. It was established on 1 June 1998.

The first President of the Bank was Wim Duisenberg
Wim Duisenberg
Willem Frederik "Wim" Duisenberg was a Dutch politician of the Labour Party . He was the first President of the European Central Bank from 1 July 1998 until 31 October 2003. He was instrumental in the Introduction of the euro in the European Union in 2002. He was also credited for making numerous...

, the former president of the Dutch central bank
De Nederlandsche Bank
De Nederlandsche Bank is the central bank of the Netherlands. It is part of the European System of Central Banks .-History:...

 and the European Monetary Institute
European Monetary Institute
The European Monetary Institute was the forerunner of the European Central Bank , operating between 1994 and 1997.-History:The EMI was created 1 January 1994 to oversee the second stage in the creation of monetary union. The EMI itself took over from the earlier European Monetary Cooperation Fund...

. While Duisenberg had been the head of the EMI (taking over from Alexandre Lamfalussy
Alexandre Lamfalussy
Baron Alexandre Lamfalussy , is a European economist and central banker.Born in Hungary, Lamfalussy studied at the Catholic University of Leuven and Nuffield College, Oxford, where he received his doctorate in economics...

 of Belgium) just before the ECB came into existence, the French government wanted Jean-Claude Trichet
Jean-Claude Trichet
Jean-Claude Trichet is a French civil servant who was the president of the European Central Bank, a position he held from 2003 to 2011. He is also a member of the Board of Directors of the Bank for International Settlements...

, former head of the French central bank
Banque de France
The Banque de France is the central bank of France; it is linked to the European Central Bank . Its main charge is to implement the interest rate policy of the European System of Central Banks...

, to be the ECB's first president.

The French argued that since the ECB was to be located in Germany, its President should be French. This was opposed by the German, Dutch and Belgian governments who saw Duisenberg as a guarantor of a strong euro. Tensions were abated by a gentleman's agreement in which Duisenberg would stand down before the end of his mandate, to be replaced by Trichet, which occurred in November 2003.

There had also been tension over the ECB's Executive Board
Executive Board of the European Central Bank
The Executive Board of the European Central Bank is the organ responsible for monetary policy of the Eurozone.Members of the Executive Board of the European Central Bank are nominated by agreement between the Heads of Government of the Eurozone countries for a non-renewable eight-year term The...

, with the United Kingdom demanding a seat even though it had not joined the Single Currency. Under pressure from France, three seats were assigned to the largest members, France, Germany, and Italy; Spain also demanded and obtained a seat. Despite such a system of appointment the board asserted its independence early on in resisting calls for interest rates and future candidates to it.

When the ECB was created, it covered a Eurozone
Eurozone
The eurozone , officially called the euro area, is an economic and monetary union of seventeen European Union member states that have adopted the euro as their common currency and sole legal tender...

 of eleven members. Since then, Greece joined in January 2001, Slovenia in January 2007, Cyprus and Malta in January 2008, Slovakia in January 2009, and Estonia in January 2011, enlarging the bank's scope and the membership of its Governing Council.

On 1 December 2009, the Treaty of Lisbon entered into force, ECB according to the article 13 of TEU, gained official status of an EU institution
Institutions of the European Union
The European Union is governed by seven institutions. Article 13 of Treaty on European Union lists them in the following order: the European Parliament, the European Council, the Council of the European Union, the European Commission, the Court of Justice of the European Union, the European...

.

In April 2011, the ECB raised interest rates for the first time since 2008 from 1% to 1.25%, with a further increase to 1.50% in July 2011.

Future


When German appointee to the Governing Council and Executive board, Jürgen Stark, resigned in protest of the ECB's bond buying programme, Financial Times Deutschland called it "the end of the ECB as we know it" referring to its perceived "hawkish" stance on inflation and its historical Bundesbank influence.

Powers and objectives


The primary objective of the European Central Bank is to maintain price stability within the Eurozone
Eurozone
The eurozone , officially called the euro area, is an economic and monetary union of seventeen European Union member states that have adopted the euro as their common currency and sole legal tender...

, which is the same as keeping inflation low. The Governing Council defined price stability as inflation of around 2%. (Harmonised Index of Consumer Prices
Harmonised Index of Consumer Prices
The Harmonised Index of Consumer Prices is an indicator of inflation and price stability for the European Central Bank . It is a consumer price index which is compiled according to a methodology that has been harmonised across EU countries. The euro area HICP is a weighted average of price...

) Unlike for example the United States Federal Reserve Bank, the ECB has only one primary objective with other objectives subordinate to it.

Authorities


The key tasks of the ECB are to define and implement the monetary policy
Monetary policy
Monetary policy is the process by which the monetary authority of a country controls the supply of money, often targeting a rate of interest for the purpose of promoting economic growth and stability. The official goals usually include relatively stable prices and low unemployment...

 for the Eurozone, to conduct foreign exchange operations, to take care of the foreign reserves of the European System of Central Banks and promote smooth operation of the financial market infrastructure under the Target payments system
TARGET
TARGET was an interbank payment system for the real-time processing of cross-border transfers throughout the European Union. It included 16 national real-time gross settlement systems and the ECB payment mechanism...

  and being currently developed technical platform for settlement of securities in Europe (TARGET2 Securities
TARGET2 Securities
T2S will be the future IT platform for the settlement of almost all bonds and equities that are traded in Europe. The project was initiated in 2006 and is currently under development. Based on the latest announcements it is scheduled to go-live in 2015...

).
Furthermore, it has the exclusive right to authorise the issuance of euro banknotes
Euro banknotes
Euro banknotes are the banknotes of the euro, the currency of the eurozone and have been in circulation since 2002. They are issued by the national central banks of the euro area or the European Central Bank...

. Member states can issue euro coins
Euro coins
There are eight euro coin denominations, ranging from one cent to two euros . The coins first came into use in 2002. They have a common reverse, portraying a map of Europe, but each country in the eurozone has its own design on the obverse, which means that each coin has a variety of different...

 but the amount must be authorised by the ECB beforehand (upon the introduction of the euro, the ECB also had exclusive right to issue coins).

In U.S. style central banking, liquidity is furnished to the economy primarily through the purchase of Treasury bonds by the Federal Reserve Bank
Federal Reserve Bank
The twelve Federal Reserve Banks form a major part of the Federal Reserve System, the central banking system of the United States. The twelve federal reserve banks together divide the nation into twelve Federal Reserve Districts, the twelve banking districts created by the Federal Reserve Act of...

. The Eurosystem uses a different method. There are about 1500 eligible banks which may bid for short term repo contracts
Repurchase agreement
A repurchase agreement, also known as a repo, RP, or sale and repurchase agreement, is the sale of securities together with an agreement for the seller to buy back the securities at a later date. The repurchase price should be greater than the original sale price, the difference effectively...

 of two weeks to three months duration.

The banks in effect borrow cash and must pay it back; the short durations allow interest rates to be adjusted continually. When the repo notes come due the participating banks bid again. An increase in the quantity of notes offered at auction allows an increase in liquidity in the economy. A decrease has the contrary effect. The contracts are carried on the asset side of the European Central Bank's balance sheet and the resulting deposits in member banks are carried as a liability. In lay terms, the liability of the central bank is money, and an increase in deposits in member banks, carried as a liability by the central bank, means that more money has been put into the economy.

Mandates


To qualify for participation in the auctions, banks must be able to offer proof of appropriate collateral in the form of loans to other entities. These can be the public debt of member states, but a fairly wide range of private banking securities are also accepted. The fairly stringent membership requirements for the European Union, especially with regard to sovereign debt as a percentage of each member state's gross domestic product, are designed to insure that assets offered to the bank as collateral are, at least in theory, all equally good, and all equally protected from the risk of inflation.

The economic and financial crisis that began in 2008 has revealed some relative weaknesses in the sovereign debt of such member countries as Portugal, Ireland, Greece and Spain. These securities are not limited to the countries of issue, but held in many cases by banks in other member states. To the extent that the banks authorized to borrow from the ECB have compromised collateral, their ability to borrow from the ECB—and thus the liquidity of the economic system—is impaired.

This threat has drawn the ECB into rescue operations. But weak sovereign debt is not the only source of weakness in the ECB's operations, as the collapse of the market in U.S. dollar denominated collateralized debt obligations has also led to large scale interventions in cooperation with the Federal Reserve.

Rescue operations involving sovereign debt have included temporarily moving bad or weak assets off the balance sheets of the weak member banks into the balance sheets of the European Central Bank. Such action is viewed as monetization
Monetization
Monetization is the process of converting or establishing something into legal tender. It usually refers to the coining of currency or the printing of banknotes by central banks...

 and can be seen as an inflationary threat, whereby the strong member countries of the ECB shoulder the burden of monetary expansion (and potential inflation) in order to save the weak member countries. Most central banks prefer to move weak assets off their balance sheets with some kind of agreement as to how the debt will continue to be serviced. This preference has typically led the ECB to argue that the weaker member countries must:
  • Allocate considerable national income to servicing debts.
  • scale back a wide range of national expenditures (such as education, infrastructure, and welfare
    Welfare
    Welfare refers to a broad discourse which may hold certain implications regarding the provision of a minimal level of wellbeing and social support for all citizens without the stigma of charity. This is termed "social solidarity"...

     transfer payments) in order to make their payments.

European Financial Stability Facility


On 9 May 2010, the 27 member states of the European Union
European Union
The European Union is an economic and political union of 27 independent member states which are located primarily in Europe. The EU traces its origins from the European Coal and Steel Community and the European Economic Community , formed by six countries in 1958...

 agreed to incorporate the European Financial Stability Facility. The EFSF’s mandate is to safeguard financial stability in Europe by providing financial assistance to Eurozone Member States.

The European Financial Stability Facility is authorised to use the following instruments linked to appropriate conditionality:
  • To provide loans to countries in financial difficulties, like in the event of Greece.
  • To intervene in the primary and secondary debt markets. Intervention in the secondary debt market will be only on the basis of an ECB analysis recognising the existence of exceptional financial market circumstances and risks to financial stability.
  • Act on the basis of a precautionary programme.
  • Finance recapitalisations of financial institutions through loans to governments


The EFSF is backed by guarantee commitments from the Eurozone Member States for a total of €780 billion and has a lending capacity of €440 billion. It has been assigned the best possible credit rating (AAA by Standard & Poor’s and Fitch Ratings, Aaa by Moody’s)

Powers and objectives during the European banking crisis


The European Central Bank had stepped up the buying of member nations debt. In response to the crisis of 2010, some proposals have surfaced for a collective European bond issue that would allow the central bank to purchase a European version of U.S. Treasury Bills. To make European sovereign debt assets more similar to a U.S. Treasury, a collective guarantee of the member states' solvency would be necessary. But the German government has resisted this proposal, and other analyses indicate that "the sickness of the Euro" is due to the linkage between sovereign debt and failing national banking systems. If the European central bank were to deal directly with failing banking systems sovereign debt would not look as leveraged relative to national income in the financially weaker member states.

On 17 December 2010, the ECB announced that it was going to double its capitalization. (The ECB's most recent balance sheet before the announcement listed capital and reserves at €2.03 trillion.) The sixteen central banks of the member states would transfer assets to the ledger of the ECB. In banking, assets (loans) are used to offset liabilities (deposits and currency). If some of the sovereign debt held as an asset by the ECB becomes non-performing, the asset is "bad" and the deposits, in this case, currency, are not appropriately backed.

This inequality means that liabilities exceed assets and therefore the bank is in trouble. One response is to use the bank's capital to offset the losses. The use of capital to offset a loss transfers the loss to the bank's shareholders: the member banks. The increased capitalization of the ECB against potential sovereign debt default means that the sixteen member banks are also exposed to potential losses.

In 2011, the European member states may need to raise as much as US$2 trillion in debt. Some of this will be new debt and some will be previous debt that is "rolled over" as older loans reach maturity. In either case, the ability to raise this money depends on the confidence of investors in the European financial system. The ability of the European Union to guarantee its members' sovereign debt obligations have direct implications for the core assets of the banking system that support the Euro.

The bank must also co-operate within the EU and internationally with third bodies and entities. Finally it contributes to maintaining a stable financial system and monitoring the banking sector. The latter can be seen, for example, in the bank's intervention during the 2007 credit crisis when it loaned billions of euros to banks to stabilise the financial system. In December 2007, the ECB decided in conjunction with the Federal Reserve under a program called Term auction facility
Term auction facility
The Term Auction Facility is a temporary program managed by the United States Federal Reserve designed to "address elevated pressures in short-term funding markets." Under the program the Fed auctions collateralized loans with terms of 28 and 84 days to depository institutions that are "in...

 to improve dollar liquidity in the eurozone and to stabilise the money market.

Independence


Furthermore, not only must the bank not seek influence, but EU institutions and national governments are bound by the treaties to respect the ECB's independence. For example, the minimum term of office for a national central bank governor is five years and members of the executive board have a non-renewable eight-year term. To offer some accountability, the ECB is bound to publish reports on its activities and has to address its annual report to the European Parliament
European Parliament
The European Parliament is the directly elected parliamentary institution of the European Union . Together with the Council of the European Union and the Commission, it exercises the legislative function of the EU and it has been described as one of the most powerful legislatures in the world...

, the European Commission
European Commission
The European Commission is the executive body of the European Union. The body is responsible for proposing legislation, implementing decisions, upholding the Union's treaties and the general day-to-day running of the Union....

, the Council of the European Union
Council of the European Union
The Council of the European Union is the institution in the legislature of the European Union representing the executives of member states, the other legislative body being the European Parliament. The Council is composed of twenty-seven national ministers...

 and the European Council
European Council
The European Council is an institution of the European Union. It comprises the heads of state or government of the EU member states, along with the President of the European Commission and the President of the European Council, currently Herman Van Rompuy...

. The European Parliament also gets to question and then issue its opinion on candidates to the executive board.

The bank's independence has notably come under intense criticism since the election of Nicolas Sarkozy
Nicolas Sarkozy
Nicolas Sarkozy is the 23rd and current President of the French Republic and ex officio Co-Prince of Andorra. He assumed the office on 16 May 2007 after defeating the Socialist Party candidate Ségolène Royal 10 days earlier....

 as French President. Sarkozy has sought to make the ECB more susceptible to political influence, to extend its mandate to focus on growth and job creation (at cost of inflation
Inflation
In economics, inflation is a rise in the general level of prices of goods and services in an economy over a period of time.When the general price level rises, each unit of currency buys fewer goods and services. Consequently, inflation also reflects an erosion in the purchasing power of money – a...

), and has frequently criticized the bank's policies on interest rates. As result of pressure from France and Greece, independence of ECB has been limited. The same has happened with Stability and Growth Pact
Stability and Growth Pact
The Stability and Growth Pact is an agreement among the 27 Member states of the European Union that take part in the Eurozone, to facilitate and maintain the stability of the Economic and Monetary Union...

 that sets fiscal limits in the euro zone — these limits have been notoriously violated but no member country has been fined.

Organization


Although the ECB is governed by European law directly and thus not by corporate law applying to private law companies, its set-up resembles that of a corporation in the sense that the ECB has shareholders and stock capital. Its capital is five billion euros which is held by the national central banks of the member states as shareholders. The initial capital allocation key was determined in 1998 on the basis of the states' population and GDP, but the key is adjustable. Shares in the ECB are not transferable and cannot be used as collateral.
All National Central Banks (NCBs) that own a share of the ECB capital stock as of 1 January 2011 are listed below. Non-Euro area NCBs are required to pay up only a very small percentage of their subscribed capital, which accounts for the different magnitudes of Euro area and Non-Euro area total paid-up capital.
NCB Capital Key (%) Paid-up Capital (€)
Nationale Bank van België / Banque Nationale de Belgique 2.4256 180,157,051.35
Deutsche Bundesbank 18.9373 1,406,533,694.10
Eesti Pank 0.1790 13,294,901.14
Central Bank of Ireland 1.1107 82,495,232.91
Τράπεζα της Ελλάδος (Bank of Greece) 1.9649 145,939,392.39
Banco de España 8.3040 616,764,575.51
Banque de France 14.2212 1,056,253,899.48
Banca d'Italia 12.4966 928,162,354.81
Kεντρική Τράπεζα Κύπρου / Kıbrıs Merkez Bankası
(Central Bank of Cyprus)
0.1369 10,167,999.81
Banque centrale du Luxembourg 0.1747 12,975,526.42
Bank Ċentrali ta' Malta 0.0632 4,694,065.65
De Nederlandsche Bank 3.9882 296,216,339.12
Österreichische Nationalbank 1.9417 144,216,254.37
Banco de Portugal 1.7504 130,007,792.98
Banka Slovenije 0.3288 24,421,025.10
Národná banka Slovenska 0.6934 51,501,030.43
Suomen Pankki - Finlands Bank 1.2539 93,131,153.81
Total 69.9705 5,196,932,289.36
Non-Euro area:
Българска народна банка (Bulgarian National Bank) 0.8686 3,505,013.50
Česká národní banka 1.4472 5,839,806.06
Danmarks Nationalbank 1.4835 5,986,285.44
Latvijas Banka 0.2837 1,144,798.91
Lietuvos bankas 0.4256 1,717,400.12
Magyar Nemzeti Bank 1.3856 5,591,234.99
Narodowy Bank Polski 4.8954 19,754,136.66
Banca Naţională a României 2.4645 9,944,860.44
Sveriges Riksbank 2.2582 9,112,389.47
Bank of England 14.5172 58,580,453.65
Total 30.0295 121,176,379.25

The Executive Board is responsible for the implementation of monetary policy defined by the Governing Council and the day-to-day running of the bank. In this it can issue decisions to national central banks and may also exercise powers delegated to it by the Governing Council. It is composed of the President of the Bank (currently Mario Draghi
Mario Draghi
Mario Draghi is an Italian banker and economist who succeeded Jean-Claude Trichet as President of the European Central Bank on 1 November 2011...

), a vice president (currently Vitor Constâncio
Vitor Constâncio
Vítor Manuel Ribeiro Constâncio, GCC, GCIH is a Portuguese economist and politician, Vice-President of the European Central Bank. Constâncio graduated in economics from the Universidade Técnica de Lisboa....

) and four other members. They are all appointed by common accord of the Eurozone
Eurozone
The eurozone , officially called the euro area, is an economic and monetary union of seventeen European Union member states that have adopted the euro as their common currency and sole legal tender...

 member states for non-renewable terms of eight years.

The General Council is a body dealing with transitional issues of euro adoption, for example fixing the exchange rates of currencies being replaced by the euro (continuing the tasks of the former EMI). It will continue to exist until all EU member states adopt the euro, at which point it will be dissolved. It is composed of the President and Vice President together with the governors of all of the EU's national central banks.

European sovereign debt crisis


From late 2009, fears of a sovereign debt crisis developed among fiscally conservative investors concerning some European states, with the situation becoming particularly tense in early 2010. This included euro zone members Greece
Economy of Greece
The economy of Greece is the 32nd largest in the world by nominal gross domestic product and the 37th largest at purchasing power parity , according to data by the World Bank for the year 2010...

, Ireland and Portugal
Economy of Portugal
The Economy of Portugal is a high income mixed economy. The Global Competitiveness Report 2008-2009 edition placed Portugal in the 43rd position out of 134 countries and territories....

 and also some EU
European Union
The European Union is an economic and political union of 27 independent member states which are located primarily in Europe. The EU traces its origins from the European Coal and Steel Community and the European Economic Community , formed by six countries in 1958...

 countries outside the area. Iceland
Iceland
Iceland , described as the Republic of Iceland, is a Nordic and European island country in the North Atlantic Ocean, on the Mid-Atlantic Ridge. Iceland also refers to the main island of the country, which contains almost all the population and almost all the land area. The country has a population...

, the country which experienced the largest crisis in 2008 when its entire international banking system collapsed has emerged less affected by the sovereign debt crisis as the government was unable to bail the banks out.

In the EU, especially in countries where sovereign debts have increased sharply due to bank bailouts, a crisis of confidence has emerged with the widening of bond
Bond (finance)
In finance, a bond is a debt security, in which the authorized issuer owes the holders a debt and, depending on the terms of the bond, is obliged to pay interest to use and/or to repay the principal at a later date, termed maturity...

 yield spread
Yield spread
In finance, the yield spread is the difference between the quoted rates of return on two different investments, usually of different credit quality.It is a compound of yield and spread....

s and risk insurance on credit default swaps between these countries and other EU members, most importantly Germany. To be included in the eurozone, the countries had to fulfill certain convergence criteria
Convergence criteria
The euro convergence criteria are the criteria for European Union member states to enter the third stage of European Economic and Monetary Union and adopt the euro as their currency...

, but the meaningfulness of such criteria were diminished by the fact they have not been applied to different countries with the same strictness.

Causes


The principal monetary policy tool of the European central bank is collateralized borrowing or repo agreements. These tools are also used by the United States Federal Reserve Bank, but the Fed does more direct purchasing of financial assets than its European counterpart. The collateral used by the ECB is typically high quality public and private sector debt.

The criteria for determining "high quality" for public debt have been preconditions for membership in the European Union: total debt must not be too large in relation to Gross Domestic Product, for example, and deficits in any given year must not become too large. Though these criteria are fairly simple, a number of accounting techniques may hide the underlying reality of fiscal solvency—or the lack of same.

In central banking, the privileged status of the central bank is that it can make as much money as it deems needed. In the United States Federal Reserve Bank
Federal Reserve Bank
The twelve Federal Reserve Banks form a major part of the Federal Reserve System, the central banking system of the United States. The twelve federal reserve banks together divide the nation into twelve Federal Reserve Districts, the twelve banking districts created by the Federal Reserve Act of...

, the Federal Reserve buys assets: typically, bonds issued by the Federal government. There is no limit on the bonds that it can buy and one of the tools at its disposal in a financial crisis is take such extraordinary measures as the purchase of large amounts of assets such as commercial paper
Commercial paper
In the global money market, commercial paper is an unsecured promissory note with a fixed maturity of 1 to 270 days. Commercial Paper is a money-market security issued by large banks and corporations to get money to meet short term debt obligations , and is only backed by an issuing bank or...

. The purpose of such operations is to ensure that adequate liquidity is available for functioning of the financial system.

Response to the crisis



There are a variety of possible responses to the problem of bad debts in a banking system. One is to induce debtors to make a greater effort to make good on their debt. With public debt this usually means getting governments to maintain debt payments while cutting back on other forms of expenditure. Such policies often involve cutting back on popular social programs.

Stringent policies with regard to social expenditures and employment in the state sector have led to riots and political protests in Greece. Another response is to shift losses from the central bank to private investors who are asked to "share the pain" of partial defaults that take the form of rescheduling debt payments.

However, if the debt rescheduling causes losses on loans held by European banks, it weakens the private banking system, which then puts pressure on the central bank to come to the aid of those banks. Private sector bond holders are an integral part of the public and private banking system. Another possible response is for wealthy member countries to guarantee or purchase the debt of countries that have defaulted or are likely to default. This alternative requires that the tax revenues and credit of the wealthy member countries be used to refinance the previous borrowing of the weaker member countries, and is politically controversial.

Reluctance in Germany to take on the burden of financing or guaranteeing the debts of weaker countries has led to public reports that some elites in Germany would prefer to see Greece, Portugal, and even Italy leave the Euro zone "temporarily." Until recently, Greek Euro zone exit was rejected by German Chancellor Angela Merkel
Angela Merkel
Angela Dorothea Merkel is the current Chancellor of Germany . Merkel, elected to the Bundestag from Mecklenburg-Vorpommern, has been the chairwoman of the Christian Democratic Union since 2000, and chairwoman of the CDU-CSU parliamentary coalition from 2002 to 2005.From 2005 to 2009 she led a...

. The German government's current position is, to keep Greece within the euro zone, but not at any cost. If the worst comes to the worst, priority will be given to the euro's stability.

Bond purchase


The ECB could, and through the late summer of 2011 did, purchase bonds issued by the weaker states even though it assumes, in doing so, the risk of a deteriorating balance sheet. ECB buying focused primarily on Spanish and Italian debt. Certain techniques can minimize the impact. Purchases of Italian bonds by the central bank, for example, were intended to dampen international speculation and strengthen portfolios in the private sector and also the central bank.

The assumption is that speculative activity will decrease over time and the value of the assets increase. Such a move is similar to what the U.S. federal reserve did in buying subprime mortgages in the crisis of 2008, except in the European crisis, the purchases are of member state debt. The risk of such a move is that it could diminish the value of the currency.

On the other hand, certain financial techniques can reduce the impact of such purchases on the currency. One is sterilization
Sterilization (economics)
Sterilization in macroeconomics refers to the actions taken by a country's central bank to counter the effects on the money supply caused by a balance of payments surplus or deficit....

, wherein highly valued assets are sold at the same time that the weaker assets are purchased, which keeps the money supply neutral. Another technique is simply to accept the bad assets as long-term collateral (as opposed to short-term repo swaps) to be held until their market value stabilizes. This would imply, as a quid pro quo, adjustments in taxation and expenditure in the economies of the weaker states to improve the perceived value of the assets.

Location



The bank is based in Frankfurt
Frankfurt
Frankfurt am Main , commonly known simply as Frankfurt, is the largest city in the German state of Hesse and the fifth-largest city in Germany, with a 2010 population of 688,249. The urban area had an estimated population of 2,300,000 in 2010...

, the largest financial centre in the Eurozone
Eurozone
The eurozone , officially called the euro area, is an economic and monetary union of seventeen European Union member states that have adopted the euro as their common currency and sole legal tender...

. Its location in the city is fixed by the Amsterdam Treaty
Amsterdam Treaty
The Amsterdam Treaty, officially the Treaty of Amsterdam amending the Treaty of the European Union, the Treaties establishing the European Communities and certain related acts, was signed on 2 October 1997, and entered into force on 1 May 1999; it made substantial changes to the Maastricht Treaty,...

 along with other major institutions. In the city, the bank currently occupies Frankfurt's Eurotower
Eurotower (Frankfurt)
The Eurotower is a skyscraper located in the Bankenviertel of Frankfurt, Germany.The tower is tall, with 40 floors and 78.000 m² of office space...

 until its purpose-built headquarters are built.

In 1999 an international architectural competition was launched by the bank to design a new building. It was won by a Vienna
Vienna
Vienna is the capital and largest city of the Republic of Austria and one of the nine states of Austria. Vienna is Austria's primary city, with a population of about 1.723 million , and is by far the largest city in Austria, as well as its cultural, economic, and political centre...

-based architectural office named Coop Himmelbau. The building will be approximately 180 metres (591 ft) tall (the present building is 148 m (486 ft) high.) and will be accompanied with other secondary buildings on a landscaped site on the site of the former wholesale market
Großmarkthalle
The Großmarkthalle , located in the Ostend of Frankfurt am Main, was the city's main wholesale market, especially for fruit and vegetables. It was closed on June 4, 2004...

 in the eastern part of Frankfurt am Main. The main construction began in October 2008, with completion scheduled during 2014. It is expected that the building will become an architectural symbol for Europe and is designed to accommodate double the number of staff who operate in the Eurotower.

See also


  • European Banking Authority
    European Banking Authority
    The European Banking Authority is a regulatory agency of the European Union headquartered in London, United Kingdom. Its activities include conducting stress tests on European banks to increase transparency in the European financial system by identifying weaknesses in banks' capital structures...

  • European Systemic Risk Board
    European Systemic Risk Board
    The European Systemic Risk Board was established on 16 December 2010 in response to the ongoing financial crisis. It is tasked with the macro-prudential oversight of the financial system within the Union in order to contribute to the prevention or mitigation of systemic risks to financial...

  • Open market operations

External links