The conditions in which thousands of asylum seekers are being detained on Lesbos has unleashed a furious political backlash in Greece, as financing of the island’s overcrowded Moria detention camp comes under scrutiny.

Tensions mounted after the defence minister, Panos Kammenos, filed a defamation action against three journalists, including the editor-in-chief of the Fileleftheros daily, after the publication of a report alleging misuse of EU funds.

Kammenos, who heads the leftist-led government’s junior partner, the rightwing populist Anel, accused the newspaper of defamation after it linked him to businessmen who had benefited from funds intended to improve living conditions in the camp.

Fileleftheros claimed enterprises with “very close” ties to Kammenos had routinely inflated charges for services that ranged from catering to plumbing. It said projects were frequently awarded through fast-track processes without due diligence or being put out to competitive tender.

The European anti-fraud agency confirmed on Tuesday it was investigating “alleged irregularities concerning the provision of EU-funded food for refugees in Greece”. Athens has received a total of €1.6bn in financial aid for refugees since 2015.

Greece has the means to help refugees on Lesbos – but does it have the will? Read more

“The money existed to transform the camp into a centre that could have resembled the Hilton; instead it is the Moria that is the source of national shame,” said the paper’s editor-in-chief, Panayiotis Lampsias. “Our reporting is based on fact and totally backed up. We stand by it and will continue with it,” he told the Guardian three days after he was briefly detained and brought before before a public prosecutor, who has now launched an investigation into whether Kammenos was defamed.

Kammenos has said the ministry used about €90m of EU funds, with full transparency. “This article was deliberately published to hurt the ministry of defence,” he told a hastily called press conference, robustly rejecting the charges as fake news.

Amid accusations of growing Greek government authoritarianism towards the media, Brussels said the arrests were a violation of press freedom. “Europe must always be a place where freedom of the press is sacrosanct,” said the European commission’s deputy spokeswoman Mina Andreeva.

The criticism came as the New York-based International Rescue Committee (IRC) issued a report warning of a burgeoning mental health crisis in the Lesbos camp. Up to 60% of asylum seekers attending the mental health centre set up by the group in Moria this year said they had contemplated suicide, and almost 30% had tried to take their own lives, the report said.

Built with a capacity for 3,100 people, the disused former army barracks currently hosts more than 8,500 asylum seekers. Greek authorities moved hundreds to the mainland this week in an attempt to free up space in the centre before the arrival of winter.

“Asylum seekers are expected to live in conditions that do not meet humanitarian standards. Approximately 84 people share one shower. Approximately 72 people share one toilet,” said the IRC report. “The sewage system is so overwhelmed that raw sewage has been known to reach the mattresses where children sleep, and flows untreated into open drains and sewers.”

Although the vast majority of those detained in Moria had fled conflict in Syria, Iraq and Afghanistan and were “deeply traumatised”, conditions in the camp had exacerbated their trauma. Only five psychologists were on hand to provide support, and riots and inter-ethnic fights were a common occurrence, the report said.

Greece’s immigration ministry estimates that 20,062 migrants and refugees are currently registered at detention centres on Lesbos, Chios, Samos, Leros and Kos, the five islands in the eastern Aegean that have received most Europe-bound people in flight from Turkey. The islands are likely to attract ever more if conflict continues in Syria and other parts of the Middle East.

Although Alexis Tsipras’s government in Athens has been praised for its humane approach towards refugees, it has been chastised for its handling of overseeing the distribution of aid and infrastructure, and the issue is likely to assume greater significance as Greece approaches general elections next year.

“What is happening in Moria is a disgrace for our country,” the main opposition leader, Kyriakos Mitsotakis, said in a statement. “Greece has received €1.6bn in funding and the government has created the worst refugee and migrant camp in the world … instead of apologising the government is intimidating and persecuting anyone who is critical of its actions.”

Mitsotakis claimed Kammenos had filed the suit because he wanted to silence those who raised “reasonable questions” over the “obscure” management of vast EU funds.

Kammenos, who has been an unnatural coalition partner for the ruling Syriza party, has demanded that the newspaper publish a “big sorry” and retract its reportage.

Lampsias said: “We are not going to apologise for a mistake we have not made. Kammenos should apologise for the appalling conditions in which refugees have been forced to live and Greeks on the island and in the surrounding villages have been forced to suffer.”