In its bi-annual Financial Stability Review, the ECB called on member states to accelerate initiatives to strengthen the monetary union as fresh financial market pressures show there is no room for complacency in implementing changes.
"There is now a need to go beyond these areas and conceive a banking union as an integral counterpart of Monetary Union. Such an endeavour would clearly take time to implement and could require legal changes," the ECB said.
Banking union would achieve three critical objectives: Strengthen euro-wide supervision of banks and thus improve the conduct of monetary policy, break the linkage between banks and sovereigns by establishing a European deposit guarantee scheme and bank resolution arrangements, and lastly it would minimize the risk for taxpayers through contributions by the financial industry.
The Review identified three key risks to financial stability: aggregation of the debt crises for euro area nations, lower bank profitability from weaker economic growth and an excessive pace of deleveraging of the banking sector.
"There remains a clear need for a continued focus on tackling the root causes of the crisis, and a comprehensive response remains key to decisively ending a spiral of systemic risk augmentation," the ECB said, calling for policy implantation in five areas:
- Action to ensure fiscal discipline and accelerate structural reforms for growth and employment.
- Effective use of the financial backstops to halt the downward spiral of self-fulfilling dynamics in the pernicious interplay between sovereign, banking and macroeconomic forces.
- Durable changes to banking models must complement temporary Eurosystem support and provide lasting funding certainty, to accompany the strengthening of the capital base of European banks in the first half of 2012.
- Continued progress is needed to eliminate political and economic uncertainty, not only to stem the forces of contagion but also to provide a more solid basis for markets to manage risk.
- Measures to strengthen economic and fiscal surveillance, and to enhance governance, must be taken and not remain contingent on market-driven pressure – thereby providing credible reassurance that the crisis that has engulfed the euro area over the last few years will never be permitted to recur.