Progress in setting up bank supervisor 'crucial'

There has been an improvement in financial market integration in Europe, but further progress must be made towards establishing a European banking union, the European Central Bank said on Thursday.

"An improvement in financial market integration was observed in the second half of 2012, after a further deterioration in the first half of the year caused by adverse market sentiment, worsened fiscal conditions and bank fragility in some euro area countries," the ECB said.

The change in sentiment was triggered by a decision in June 2012 by European leaders to create a single supervisory mechanism -- or SSM -- as a first step towards a banking union, the ECB wrote in its annual report entitled "Financial Integration in Europe.

Also helping sentiment was the ECB's announcement of a new bond purchase programme known as Outright Monetary Transactions, where the central bank could buy up the sovereign debt of crisis-wracked countries.

Nevertheless, "in spite of the improvements in market conditions since then, the climate in the financial markets remains fragile," the ECB cautioned.

"It is of paramount importance that the momentum towards building a stronger Economic and Monetary Union is maintained. Further progress towards the establishment of a single supervisory mechanism, as well as other components of the banking union, will be a critical factor underpinning financial market performance this year," it said.