What’s it: The European Central Bank (ECB) is the monetary authority for the entire Eurozone. Headquartered in Frankfurt am Main, Germany, the ECB is one of the most influential central banks in the world, apart from the Federal Reserve (the Fed) in the United States.
The ECB oversees more than 120 central banks and commercial banks in member countries. This monetary authority works with the central banks in each EU country to formulate monetary policy to maintain price stability and the Euro exchange rate. The first president of the ECB was Willem Frederik “Wim” Duisenberg, the former president of EMI and the Dutch central bank.
A brief history of the European Central Bank
The ECB started in 1998 after the Amsterdam Agreement, which amended the Treaty on the European Union. The ECB replaced the European Monetary Institute (EMI), which operated between 1994 and 1997.
EMI was formed at the second stage of economic and monetary integration. This institution deals with the issue of transition and adoption of the Euro as a single currency. Monetary unions require the formation of joint institutions to coordinate economic and monetary policy among member countries.
EMI was prepared to create the ECB and the European System of Central Banks (ESCB). The ESCB consists of the ECB and the national central banks of all EU member states, including non-Eurozone members. Therefore, the EBCS is not the monetary authority for the Eurozone, but the Eurosystem.
ECB started its work on January 1, 1991, after the launch of the Euro as the official currency in the Eurozone. The national central banks of the EU members transferred their monetary policy functions to the ECB. The other EU countries that joined from 2001 to 2015 were Greece, Cyprus, Malta, Slovenia, Slovakia, Estonia, Latvia, and Lithuania.
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Who controls the European Central Bank?
The central banks of European Union member countries have a share of capital in the ECB. You can think of them as shareholders. To maintain independence in policymaking, the ECB does not have private shareholders.
The Executive Board comprises a president, vice president, and four other members. They are responsible for setting up day-to-day activities and are appointed by the European Council.
Meanwhile, the main decision-makers and formulation of monetary policy for the euro area are under the Governing Council. It consists of the six Executive Boards and the governors of the national central banks of the Eurozone members.
What does the European Central Bank do?
The ECB and the national central bank of the euro area form the Eurosystem, which is tasked with maintaining monetary stability and is responsible for aspects such as:
- Monetary policy
- Foreign exchange operations
- Euro area’s foreign currency reserves
- Payment system
The European Central Bank’s function is to maintain price stability and maintain the value of the Euro. The Governing Council defines price stability as inflation below but close to 2%. The percentage is still valid in November 2020. Price stability is essential to spur economic growth and job creation, the EU’s main objectives.
Like other central banks, the ECB has a monopoly on issuing money in the Eurozone. The ECB does this by controlling the money available to central banks and commercial banks in eligible EU member states.
Also, the ECB makes announcements on benchmark interest rates and the amount of money supply. If a bank in the member countries has provided a guarantee, they can then place their bid for ECB funds via an auction mechanism. Once banks get funds, they use them to make loans to individuals and businesses.
To ensure the banking system’s resilience, the ECB is responsible for overseeing banking in all EU member states. The ECB operates through a single oversight mechanism, consisting of the ECB and the competent national authorities in member countries.
Concerning banking supervision, the ECB reserves the right to grant and withdraw banking licenses, carry out supervisory reviews, and set higher capital requirements to deal with financial risks.