Prompt Corrective Action (PCA) Framework by RBI

Prompt Corrective Action ( PCA) Framework is a set of policy action guidelines issued by Reserve Bank of India.  Prompt Corrective Action framework provides guidelines on actions to be initiated when the financial condition of commercial banks worsen below set parameters.  When the specified parameters go below the trigger points, RBI will intervene with corrective actions. The trigger points are linked to parameters being used to measure performance of banks. 

The PCA guidelines were initially issued in 2002. The guidelines were subjected to periodic revisions. The latest PCA guidelines were made effective from April 1, 2017.

Is the Prompt Corrective Action framework applicable to all banks?

The PCA framework is applicable to almost all banks operating in India. Small banks and foreign banks operating through branches or subsidiaries also come under the ambit of the PCA framework. However, co-operative banks are exempted from the purview of the policy. The framework is not applicable to non-banking financial companies (NBFCs) and FMIs. 

When will a bank be placed under Prompt Corrective Action framework? 

Banks are brought under the PCA framework based on the Audited Annual Financial Results and the Supervisory Assessment made by RBI. However, RBI has the freedom to initiate PCA on any bank during anytime if the circumstances so warrant.

What will be the impact of PCA on banks? 

The actions taken by RBI may include structured and discretionary actions. Some of them are recapitalization, restrictions on borrowing from inter-bank market and merger/amalgamation/liquidation.  The severity of actions increases with deteriorating financials. 

Once PCA is initiated, banks will not be allowed to raise costly deposits or take steps to improve fee based activities. They have to take special actions to contain and reduce fresh NPAs and also for recovery of impaired assets.  Entry to new lines of business will be restricted. Banks will be required to revise credit/investment strategies and rework human resource planning. Banks may have to skip dividend payments.  The strategies and policies of the bank will be subjected to severe scrutiny by RBI thus affecting operational freedom.  PCA will lead to severe reputational issues for the bank leading to business loss. 

What are the parameters that trigger prompt Corrective Action (PCA) by RBI?

The three parameters that trigger Prompt Corrective Action are 

•    Capital to Risk Weighted Asset Ratio (CRAR)/ Common Equity Tier 1 Ratio
•    Net Non-Performing Assets Ratio(NNPA) and 
•    Return on Assets (ROA)

These are three key performance indicators used for measuring strength of a bank.  For the purpose of initiation of Prompt Corrective Action, leverage would also be monitored by RBI. 

(CRAR stands for Capital to Risk Weighted Asset Ratio.  Common Equity Tier 1 Ratio is the ratio of core equity capital alone to the risk weighted assets. Indian Banks are required to have a capital adequacy ratio of 11.5% by 31.3.2019 with a CET-1 ratio of minimum 7%. This includes Capital Conversion Buffer (CCB) of 2.5% to be maintained in a staggered manner over four years by 31.3.2019. 

Excluding CCB, banks are required to maintain CRAR of 9% of which CET-1 ratio shall be 5.5% .  Hence as on 31.3.2017, the CRAR to be maintained was 10.5% with CCB of 1.5%. For 31.3.2018, banks are required to have 10.875% (9% +1.875%) CRAR. It becomes 11.5% (9%+2.5%) on 31.3.2019.

Net Non-Performing Assets Ratio (NNPA) means the percentage of net non-performing assets to net advances. Lowest NNPA means strongest back and judicial lending. 

Return on Assets (ROA) is the percentage  of profit after tax to total average assets.)

Which are the thresholds of parameters for triggering PCA? 

Breach of the following thresholds would trigger Prompt Corrective Action. 

Breaching ‘Risk Threshold 3’ of CET1 by a bank would lead to resolution of issue through tools like amalgamation, reconstruction, winding up, etc. In the case of a failure of a bank to meet the obligations to its depositors, RBI may resort to possible resolution processes without reference to the PCA matrix.

What are the proposed actions under PCA?