By John O'Donnell and Robin Emmott
BRUSSELS (Reuters) - Germany and France clashed publicly on Tuesday over plans to put the European Central Bank in charge of supervising banks, deepening a dispute over the scope of ECB powers that threatens to derail one of Europe's boldest reforms.
With time running out to meet a pledge to complete the legal framework for an EU-wide banking union by the end of the year, Germany's Wolfgang Schaeuble told a meeting of EU finance ministers he could not support a plan that would give the ECB the final say on supervision.
France's Pierre Moscovici and the ECB protested against any watering down of a plan central to Europe's response to a five-year banking crisis and which promises to unify the way it deals with problem lenders, ending a previously haphazard approach.
"The right of the last decision cannot be left to the ECB Governing Council," Schaeuble told the meeting in Brussels, in comments broadcast to reporters.
There could be no deal unless national supervisors had responsibility for most banks, he added.
"A Chinese wall between banking supervision and monetary policy is an absolute necessity," he said, also voicing skepticism that an independent central bank such as the ECB should even take on the tasks of supervision.
Moscovici countered that EU leaders, who had given finance ministers responsibility for drawing up a supervisory framework, had placed the ECB at the center of their vision.
"We have no mandate for a dual system of supervision, which would call into question the existence of a single system for some banks," said Moscovici, conceding after the meeting that their differences were difficult to hide.
The depth of divisions between the two biggest euro zone economies highlighted the difficulty in reaching agreement, making a deadline of this year uncomfortably tight.
Tuesday's occasionally heated talks ended in disagreement and the ministers will resume discussions on December 12, news that initially saw the euro slip against the dollar.
ECB Vice-President Vitor Constancio expressed alarm at suggestions that the Frankfurt-based bank may not receive the mandate to supervise lenders at all, something hinted at by Schaeuble and spelt out bluntly by Austria's finance minister.
Maria Fekter said that EU leaders in making their pledge to establish a new system of supervision "did not decide the hegemony of the ECB, just involving the ECB" and accused Constancio of misrepresenting their intentions.
The suggestion was rebutted by Constancio. "It is inside the ECB, as the summit has decided," he said.
Most countries support the idea of banking supervision, the first pillar of a banking union, but disagree on how best to structure it or how far to go in unifying banking systems to share risk and prevent discrimination between euro and non-euro countries.
Complicating the debate further is Sweden, a non-euro zone country that has substantial banking interests in Finland, which uses the euro. Sweden is concerned that if the ECB is to have oversight of assets it owns, it must have some level of equal representation at the ECB.
Having earlier threatened to block agreement, Sweden's Finance Minister Anders Borg appeared to soften his stance on Tuesday, saying compromise was possible if non-euro countries were treated fairly and national regulators retained autonomy.
Diplomats also need to address the concerns of non-euro zone countries that aim to join the currency, such as Poland and Hungary, which also want to ensure they are not disadvantaged by the ECB taking a more powerful oversight of their banks.
EU leaders hope that by setting up a single, powerful banking authority and later establishing a resolution fund for distressed banks, they will cut the link between indebted countries and their banking systems.
But Germany is concerned the project will develop into a scheme under which Berlin is left to foot the bill for banks too weak to survive on their own when, as is planned, a central resolution scheme is set up to close troubled lenders.
It is also wary about directly recapitalizing banks from the euro zone's rescue fund, which will be possible once banking union is up and running.
EU leaders agreed at a summit in October that they would have the framework for banking union agreed by year-end and the ECB would start to take responsibility during 2013.
If ministers reach agreement on Wednesday next week, it might allow them to finalize the framework by a summit of EU leaders on December 13-14, as long as the European Parliament also plays its part and gives its approval.
(Additional reporting by Annika Breidthardt.; Editing by Rex Merrifield and Luke Baker)
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