France and Germany were locked in their worst showdown of the three-year euro crisis on Thursday evening, split between two conflicting approaches, with Berlin leading the charge for draconian new centralised powers over national budgets and Paris spearheading a campaign for quicker and easier bailouts of struggling countries and banks.

French president François Hollande, appearing at only his third EU summit in Brussels after having thrown down the gauntlet to Angela Merkel this week in an interview with the Guardian and other European newspapers, flatly dismissed German demands for a new European "budgets tsar" who would be able to overrule national governments and parliaments on tax-and-spend policies in the eurozone.

"The topic of this summit is not the fiscal union but the banking union, so the only decision that will be taken is to set up a banking union by the end of the year and especially the banking supervision," Hollande said. "Merkel has her own deadline, in September 2013," he added caustically, referring to next year's general election in which the German leader is seeking a third term.

The two leaders met before the summit began on Thursday to try to iron out their differences. They were seen walking together grim-faced into the summit room, with Hollande speaking to Merkel and the chancellor appearing to say 'no' three times.

The summit sought to come up with an agreement on putting the European Central Bank in charge of supervising the eurozone banking sector by the start of next year, Hollande's key demand.

Germany, which is dragging its feet on the banking supervisor despite having proposed the move in June, revived calls for an independent European budgets tsar based at the European Commission who would enjoy sweeping powers of enforcing fiscal rectitude by overruling national governments' and parliaments' budgetary policies.

"We are of the opinion, and I speak for the whole German government on this, that we could go a step further by giving Europe real rights of intervention in national budgets," Merkel told parliament in Berlin before arriving in Brussels.

The draft summit conclusions stipulated the aim of launching the banking supervisor in January next year, but Merkel was said to be trying to get that deadline altered or removed. "Quality must come before speed," she said. "There are a lot of very complicated legal questions."

Senior diplomats described the stand-off between France and Germany as substantive, but also entailing "a lot of smoke and mirrors", with both sides engaged in setting out strong positions before having to climb down at a later stage.

In the Guardian interview this week Hollande lambasted Merkel's crisis management over the past 30 months, arguing that the German fixation on austerity and debt reduction was making matters worse in the eurozone by triggering recession.

He is known to believe that Merkel is not listening to him, nor to the leaders of Spain or Italy. His clarion call is the need for greater "solidarity" in the eurozone.

"The Germans are telling the others that if you want solidarity, then this is the price you have to pay, we take control of your budget through a super-commissioner," said a senior EU diplomat. "The Germans are playing hardball. But the French and the Germans will have to do a deal. And they always do. Otherwise [the euro] collapses."

No breakthrough or deal was expected at the summit, though, because the leaders feel that the pressure from the financial markets on the euro and on borrowing costs for countries like Spain and Italy has lifted.

Herman Van Rompuy, the European Council president chairing the summit, hoped to finesse an overall agreement on the banking supervisor. But the new system is highly technical and complex. Even if the leaders reached an outline deal on the project, it will take months at least to iron out the detail, making it unlikely that the regime will be up and running by January as planned.

The summit also "explored" two new proposals from Van Rompuy aimed at stabilising the euro — a system of annual "contracts" struck between eurozone governments and the European Commission committing governments to reforms of their labour markets and other structural changes, as well as the establishment of a new eurozone "budget" that would be used to cushion the impact of the structural reforms and also as a redistribution mechanism within the single currency area.

The eurozone budget idea is contested, albeit still vague. The notion originates from Berlin which sees it as a way to deflect pressure for a more comprehensive system of "eurobonds", pooling the debt of the eurozone countries.

Despite conflicting pressures on Spain over whether to request a bailout, Prime Minister Mariano Rajoy, who has an election in his native area of Galicia on Sunday, was not expected to ask for help. Behind the scenes the French-led camp is urging him to take a bailout, while the Germans are pushing him to resist because Merkel hopes to avoid taking the request to her parliament less than a year before seeking re-election.

Hollande is also insisting that the eurozone spell out the terms involved in a Spanish bailout before any request is tabled, while the Germans stick to the line that the request must come first and then the conditions negotiated.

Diplomats expect Spain to ask for a rescue before the end of the year and predict that the negotiations over it will be the toughest by far in the three-year euro and sovereign debt crisis.