• 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.
  1. The parameters that invite corrective action from the central bank are:
  2. Capital to Risk weighted Asset Ratio (CRAR)
  3. Net Non-Performing Assets (NPA) and
  4. Return on Assets (RoA)
  5. 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:

CRAR

(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%

NPAs

(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.