European Central Bank Totally Explained

Everything about The European Central Bank totally explained

The European Central Bank (ECB) is one of the world's most important central banks, responsible for monetary policy covering the 15 member countries of the Eurozone. It was established by the European Union (EU) in 1998 with its headquarters in Frankfurt, Germany.

History

The predecessor to the ECB was the European Monetary Institute (EMI). It was established at the start of the second stage of the EU's Economic and Monetary Union (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 (ESCB). The EMI itself took over from the earlier European Monetary Co-operation Fund (EMCF).
   The ECB formally replaced the EMI on 1 June of 1998 by virtue of the Maastricht Treaty, however it didn't exercise its full powers until the introduction of the euro 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 Jacques Delors.
   Tensions were abated by an unwritten agreement in which Duisenberg would stand down before the end of his mandate and be replaced by Trichet. The remaining members of the executive board also had tension with the United Kingdom, that demanded a seat even though it hadn't joined the eurozone. Under pressure from France three seats were assigned to the largest members, France, Germany and Italy. Spain demanded and was awarded the same treatment with the final seat going to Finland. Despite such a system of appointment the board asserted its independence early on in resisting calls for interest rates and future candidates to it. The primary objective of the ECB and the ESCB is "to maintain price stability" within the Eurozone, in other words to keep inflation low. The present target is to keep inflation below, but close to, 2%.
   Second to this objective, the key tasks of the ECB and ESCB are to define and implement the monetary policy for the eurozone, support the economic policies of the member states, conduct foreign exchange operations (and take care of the foreign reserves of the ESCB) and promote smooth operation of the banking payment system. In December 2007 the ECB decided in conjunction with the Federal Reserve under a program called Term auction facility to improve dollar liquidity in the eurozone and to stabilise the money market.
   In particular, the monetary functions involve: the opening of accounts for credit institutions, public entities and other market entities; open market and credit operations; requiring credit institutions to hold minimum reserves, regulating to create an efficient and sound clearing and payments system; and co-operating with third country central banks, credit institutions and international organizations.

Organisation

The design of the ECB was modelled on the German Bundesbank, in particular on its political independence. It is governed by a Governing Council and the Executive Board. There is also a General Council. The bank has independence from any European or national institution and also holds financial independence by means of a separate budget drawn from national central banks. These bodies also govern the ESCB, which is the ECB plus all the NCBs of the EU (the "Eurosystem" is the ECB plus the NCBs inside the Eurozone).
The Governing Council is the supreme decision making body of the ECB. It is composed of the members of the executive board and the governors of the NCBs which have adopted the euro. The Council is responsible for taking decisions on monetary policy, interest rates and the reserves of the ESCB. It's also responsible in other matters, such as authorises the issue of banknotes and in advising other institutions on draft legislation. It meets at least ten times a year and meetings can only be attended by members and the Council President and Commission President. In voting each member has one vote (the Council and Commission presidents don't vote) and decisions are taken by a simple majority.
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 exists until all states adopt the euro, at which point it would be dissolved. It is composed of the President and vice president together with the governors of all the NCBs of the EU.

Independence and future

The ECB is designed to be independent of political intervention, both from EU institutions and from member states. It also has financial independence by virtue of its having its own budget, separate from the EU budget, sourced from the NCBs. Its political independence was an attribute taken from the bank it was modelled after, the German Bundesbank Furthermore, not only must the bank not seek influence, but EU institutions and national governments are bound by the treaties to respect this principle by not themselves seeking to influence the decision-making bodies of the ECB. The European Parliament also gets to question and then issue its opinion on candidates to the executive board.
However, the policy of independence has come under some criticism. In 2001, a UK treasury official argued that problems could be caused by the ECB setting its own interest rates due to concern about disagreement between the 12 finance ministers. In comparison, in the UK system the inflation target is set by the government and the interest rates are set by the Bank of England. Despite the ECB controlling monetary policy, economic policy remains national and hence some were of the opinion that there was an insufficient counterbalance to the ECB (such as an EU Treasury). They therefore proposed an economic government for the Eurozone as the Ecofin, the nearest comparison, represented all the EU rather than just the Eurozone. Concerns over how any such body would affect the independence of the ECB led to the watered-down proposal of an "Ecofin Council" to discuss such matters.
Concerns have also been raised over the Lisbon Treaty which, like the European Constitution, will make the ECB a formal institution of the EU. However, unlike the constitution, the Lisbon Treaty doesn't include an article ensuring the bank's independence. Trichet has expressed that without such a guarantee the bank would be bound by the same code as the other institutions, to cooperate and pursue a common agenda. This may encourage leaders to put political pressure on the bank's decisions.

Location

The bank is based in Frankfurt, the largest financial centre in the Eurozone. Its location in the city is fixed by the Amsterdam Treaty along with other major institutions. In the city, the bank currently occupies Frankfurt's Eurotower until its purpose-built headquarters are built. It is expected that the building will become an architectural symbol for Europe and is designed to cope with double the number of staff who operate in the Eurotower.

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