- Prompt Corrective Action or PCA is a framework under which banks with weak financial metrics are put under watch by the RBI.
- The PCA framework deems banks as risky if they slip below certain norms on three parameters — capital ratios, asset quality and profitability.
- It has three risk threshold levels (1 being the lowest and 3 the highest) based on where a bank stands on these ratios.
- Banks with a capital to risk-weighted assets ratio (CRAR) of less than 10.25 per cent but more than 7.75 per cent fall under threshold 1
- Those with CRAR of more than 6.25 per cent but less than 7.75 per cent fall in the second threshold.
- In case a bank’s common equity Tier 1 (the bare minimum capital under CRAR) falls below 3.625 per cent, it gets categorised under the third threshold level.
- Banks that have a net NPA of 6 per cent or more but less than 9 per cent fall under threshold 1, and those with 12 per cent or more fall under the third threshold level.
- On profitability, banks with negative return on assets for two, three and four consecutive years fall under threshold 1, threshold 2 and threshold 3, respectively.
Why is it important?
- As most bank activities are funded by deposits which need to be repaid, it is imperative that a bank carries a sufficient amount of capital to continue its activities.
- PCA is intended to help alert the regulator as well as investors and depositors if a bank is heading for trouble.
- The idea is to head off problems before they attain crisis proportions.
- Essentially PCA helps RBI monitor key performance indicators of banks, and taking corrective measures, to restore the financial health of a bank.
- On breach of any of the risk thresholds mentioned above, the RBI can invoke a corrective action plan.
- Depending on the threshold levels, the RBI can place restrictions on dividend distribution, branch expansion, and management compensation.
- Only in an extreme situation, breach of the third threshold, would identify a bank as a likely candidate for resolution through amalgamation, reconstruction or winding up.
- Owing to the sharp deterioration in finances of state-owned banks on the back of rising NPAs, 11 public sector banks were put under PCA last year.
- Based on FY18 financials of the 21 PSBs, 17 can fall under PCA based on net NPA threshold alone and nine on ROA alone (negative for two consecutive years).
- If a bank in which you hold deposits falls under PCA, don’t press the panic button.
- The RBI’s corrective measures may bode well for your bank.
- But do keep a watch on the RBI’s PCA announcements, as they can offer vital cues on the performance of your bank.
- Contrary to the perception, PCA does not really limit the normal lending operations of banks. Arguments that so many banks slipping into PCA has stifled credit growth are overdone.
- While the RBI has placed restrictions on credit by PCA banks to unrated borrowers or those with high risks, it hasn’t invoked a complete ban on their lending.
- The PCA framework may soon be reviewed, as decided in the RBI board meeting.
- There could be some relaxation in the norms.
What is the criterial for identifying bank as PCA category bank?
- The PCA framework specifies the trigger points or the level in which the RBI will intervene with corrective action.
- This trigger points are expressed in terms of parameters for the banks.
- The trigger points are: capital to risk weighted assets ratio (CRAR), net non-performing assets (NNPA), and return on assets (RoA).
- This means that when a particular bank is reporting the low level of CRAR high level of NNPA or Return on Assets (profit), the RBI will ask it to adopt certain restrictive measures.
- The scheme was revised in April 2017.
- Under the Revised PCA framework, apart from the capital, asset quality and profitability, leverage is to be monitored additionally.
- The parameters that invite corrective action from the central bank are:
- Capital to Risk weighted Asset Ratio (CRAR)
- Net Non-Performing Assets (NPA) and
- Return on Assets (RoA)
- Leverage ratio
- When these parameters reach the set trigger points for a bank (like CRAR of 9%, 6%, 3%), the RBI will initiate certain structured and discretionary actions for the bank.
- As per the revised framework by the RBI, in April 2017, capital, asset quality and profitability continue to be the key areas for monitoring.
- Along with this, leverage of banks also will be monitored.
What the banks under PCA should do?
- When a bank is brought into the PCA framework, it should face restrictions on distributing dividends, remitting profits and even on accepting certain kinds of deposits.
- Besides, there are restrictions on the expansion of branch network, and the lenders need to maintain higher provisions, along with caps on management compensation and directors’ fees.
- The entire thrust of the PCA framework is to prevent further capital erosion and to bring back the bank to normal healthy conditions.
- Some of the structured and discretionary actions that could be taken by the Reserve Bank are: recapitalization, restrictions on borrowing from inter-bank market to steps to merge/amalgamate/liquidate the bank or impose moratorium on the bank if its CRAR does not improve beyond etc.).
- The corrective actions are tough with worsening of the financials.
- Major trigger points in the original format were:
(i) CRAR less than 9%, but equal or more than 6%
(ii) CRAR less than 6%, but equal or more than 3%
(iii) CRAR less than 3%
(i) Net NPAs over 10% but less than 15%
(ii) Net NPAs 15% and above
ROA below 0.25%
The PCA framework is applicable only to commercial banks and not extended to co-operative banks, non-banking financial companies (NBFCs) and FMIs.
PCA Framework banks as on March 2019
- As on March 9, 2019, there are only six banks which are under the PCA Framework.
- All these banks are PSBs: Dena Bank, United Bank of India, IDBI Bank, UCO Bank, Central Bank of India, Indian Overseas Bank.
- As per the recent RBI notifications, six banks- Bank of Maharashtra, Bank of India, Oriental Bank of Commerce, Dhanlaxmi Bank, Allahabad Bank and Corporation Bank, are out of the PCA framework this year.
- Earlier, there were 11 PSBs under the PCA Framework. Government has infused capital into several of these PSBs and they were redeemed from the PCA list.