"The days when we allow the Catholic Church to be its own investigator are well and truly over," he said in a statement on Saturday.
The senator was responding to calls for a NSW royal commission by a senior police detective who claims evidence of paedophilia has been destroyed by Catholic priests.
Senator Xenophon said the allegations of Detective Inspector Peter Fox were so grave only a national royal commission could get to the truth.
NSW Premier Barry O'Farrell announced a special commission of inquiry into police handling of abuse by Catholic Church clergy in the Hunter Valley, after Inspector Fox's claims of a cover-up were aired.
Senator Xenophon says allegations go beyond state borders, citing similar claims of abuse and cover-up in South Australia and Victoria.
Kevin Lee, who was ordained as a priest 20 years ago but was relieved of his parish responsibilities in western Sydney this year when he admitted to marrying a woman in secret, said he first became aware of the practice as soon as he was in the seminary.
"I became aware that some of the other priests were actually pedophiles and were not necessarily becoming priests because they wanted to help people, but because they were pedophiles who wanted the opportunity," he told ABC television.
Meanwhile, Australia's most senior Catholic, Cardinal George Pell, is reportedly deeply ashamed at child sex abuse perpetrated by members of the church but doesn't believe a royal commission is warranted.
The Archbishop of Sydney accepts that children were abused by priests and that the crimes were covered up by other clergy but believes the Catholic church is no worse than other organisations.
"It wasn't just the Catholic church that hoped (an abusive priest) would amend their conduct and give them a home elsewhere," he told the Weekend Australian.
"Back in those days, they were entitled to think of pedophilia as simply a sin that you would repent of. They didn't realise that in the worst cases it was an addiction, a raging addiction."
His comments come after serving police officer Detective Chief Inspector Peter Fox alleged he was taken off Catholic paedophilia investigations after being outspoken, and that senior church figures covered up serious sexual abuse allegations for decades.
After resisting calls for a royal commission into the church for months, Mr O'Farrell acted following an open letter from Insp Fox.
But the Premier gave no guarantees the inquiry would hold public hearings - and Insp Fox and the Opposition last night called for a much broader inquiry.
Insp Fox said a special commission alone was a slap in the face to victims.
Mr O'Farrell's move came after Insp Fox gave an emotional interview on ABC's Lateline on Thursday, when he alleged: "An archbishop, a bishop and a priest are implicated in cover-up.
"There's something very wrong when you have so many paedophile priests operating in such a small area for such an extended period of time with immunity."
Yesterday Insp Fox claimed there had been an attempt to muzzle him.
"I was called by a superior reminding me of the NSW Police policy not to talk to the media," Insp Fox said.
Former police colleague and now Nationals MP Troy Grant last night said there needed to be a national royal commission into abuse in the Catholic Church and said Cardinal Pell should quit his position as head of the church in Australia, unless he took appropriate action.
"It's unacceptable for him to remain at the head of the Catholic church while he continues to fail the victims of sexual abuse by priests," Mr Grant said.
Insp Fox alleged he was taken off an investigation into the abuse of up to 80 young girls in the '50s and '60s by former Catholic priest Denis McAlinden - and of all investigations concerning the Catholic church in 2010.
McAlinden died in 2005.
Police last night said Insp Fox had been removed from investigations only because the taskforce was being run in another command area.
Police also said they believed his allegations of church cover-ups had been investigated thoroughly and "as a whole the church has co-operated with police".
Catholic Bishop Bill Wright, from the Diocese of Maitland-Newcastle, said he appreciated the "anger and frustration" of Insp Fox but "that anger and frustration ... does not entitle him to remain unchallenged when he makes statements about the present-day situation that are simply not correct".
The special commission will be headed by Margaret Cunneen SC.
Mr O'Farrell argued it would have all the powers of a royal commission, including the ability to subpoena documents and compel witnesses, but Ms Cunneen would be asked not to delve into matters which might jeopardise police investigations.
"Concerns have been raised about both the police handling of investigations as well as possible interference by the church in those investigations," Mr O'Farrell said.
"These matters have been raised by a senior serving officer and deserve to be fully investigated."
Insp Fox said it was not enough. "I really would have hoped for a full royal commission," he said.
He said he had already seen how such an inquiry could be little more than a bureaucratic cover-up.
Insp Fox said the inquiry should not be restricted to the Hunter.
"The church moves these offenders from parish to parish. It's a Band-Aid approach to look at one small area."