European Central Bank (ECB)

What is European Central Bank (ECB)?

The European Central Bank (ECB) is the central bank responsible for monetary policy of those European Union (EU) member countries which have adopted the euro currency. This region is known as the eurozone and currently comprises 19 members. The principal goal of the ECB is to maintain price stability in the euro area, thus helping preserve the purchasing power of the euro.

Key Takeaways

  • The European Central Bank (ECB) is the central bank of the combined Eurozone.
  • The ECB coordinates EU monetary policy, including setting the region's target interest rates and controlling the supply of the Euro common currency.
  • The ECB's primary mandate is to achieve price stability through low inflation.

Understanding European Central Bank (ECB)

The European Central Bank (ECB) is headquartered in Frankfurt am Main, Germany. It has been responsible for monetary policy in the Euro area since January 1, 1999, when the euro currency was first adopted by some EU members. The ECB Governing Council is the body within the ECB that actually takes decisions on eurozone monetary policy.

The Council consists of six executive board members and the governor (or equivalent) of each member's national central bank. As membership of the Euro area has expanded, so has the number of governors in the Governing Council. ECB has a system of rotating voting rights among the national bank governors (the executive board members have permanent voting rights), as the Governing Council is now too large for all members to vote at each meeting.

ECB's Structure

The European Central Bank was established in 1999. The governing council of the ECB is the group that decides on changes to monetary policy. The council consists of the six members of the executive board of the ECB, plus the governors of all the national central banks from the 19 euro area countries. As a central bank, the ECB does not like surprises. Therefore, whenever it plans on making a change to interest rates, it will generally give the market ample notice of an impending move through comments to the press. The governing council meets twice a month, but policy decisions are generally only made at meetings where there is an accompanying press conference, and those are held every six weeks.

ECB's Mandate

The ECB's mandate is for price stability and sustainable growth. However, unlike the Federal Reserve in the U.S., the ECB strives to maintain the annual inflation level (growth in consumer prices) below 2%. As an export-dependent economy, the ECB also has a vested interest in preventing against excess strength in its currency because this poses a risk to its export market.

European Central Bank (ECB) Functions

The primary responsibility of the ECB, linked to its main goal of price stability, is formulating monetary policy. This involves making decisions about monetary objectives, key interest rates, the supply of reserves in the Euro-system and establishing guidelines for implementing those decisions. Monetary policy decision meetings are held every six weeks, and the ECB is transparent about the reasoning behind its decisions. It holds a press conference after each such meeting, and later publishes the minutes of the meeting.

The Euro-system comprises the ECB and the national member states' central banks. The Euro-system is responsible for the practical implementation of ECB policy (such as implementing policy, actually holding and managing foreign reserves, operating in the foreign exchange market, and ensuring the payments system runs smoothly.)

The ECB is also the EU body responsible for banking supervision. In conjunction with national central bank supervisors, it operates what is called the Single Supervisory Mechanism (SSM). The decisions involved in this function are mainly aimed at ensuring the safety and soundness of the European banking system. Part of the rationale for the SSM is to ensure consistent banking supervision practices across member country banking systems—lax supervision in some member countries had been part of the cause of the European financial crisis that started in 2008. The SSM began functioning in November 2014. All euro area countries are in the SSM and non-euro EU countries can choose to join.