Banking Alert: Understanding PCA (Prompt Corrective Action)
by Yuvi K - December 16, 2023
What is Prompt Corrective Action (PCA)?
Prompt Corrective Action (PCA) is a banking regulation in India which is a system of steps which will be taken automatically in the event of a bank having problems or showing signs of financial distress. This is done to protect depositors and preserve the safety and soundness of the banking system in India. The Reserve Bank of India (RBI) introduced the PCA to ensure the financial stability of banks and protect the interests of depositors and other stakeholders.
PCA involves certain restrictions/action which will be taken against a bank when its capital levels or other parameters fall below the prescribed threshold. If a bank violates the PCA norms, RBI can take strict corrective measures like capping of the bank’s lending, increasing provisions and restrictions on dividend payment.
Under PCA, banks are monitored in three categories – PCA I, PCA II and PCA III. Banks in each category are subjected to different corrective measures.
What is RBI’s Prompt Corrective Action (PCA) framework?
RBI’s Prompt Corrective Action (PCA) framework stipulates thresholds for certain parameters like capital adequacy ratio (CAR), net NPA and return on assets (RoA). Depending on the severity of breach, a bank may be put under one of the three categories – PCA I, PCA II and PCA III.
1. PCA I
This is the mildest form of corrective action, and is taken when a bank’s capital-to-risk weighted assets ratio (CRAR) falls below or is about to fall significantly below the prescribed threshold of 9%. Banks put in this category must ensure that the ratio does not fall below 6.5%. A few banks that have been put in PCA-I are Karnataka Bank Ltd., and Oriental Bank of Commerce.
2. PCA II
Banks in this category must raise their CRAR to the prescribed level and the ratio should not fall below 9%. Along with this, the return on assets should also be more than 1.25%, but less than 3.00%. The net NPA of the bank should be less than 12%. PCA-II is usually imposed if the CRAR of the bank is between 6.5%-9%.
3. PCA III
Banks put in PCA-III must ensure that the CRAR is above 9%. Along with this, the return on assets should not fall below 0%, as well as the net NPA should be lower than 6%. Measures such as restrictions on dividend, remuneration, and branch expansion are imposed if the bank is put in this category. It is the strictest form of corrective action by RBI, and the least desirable situation for any bank.
What are the measures imposed by RBI in case of PCA?
RBI has prescribed certain measures which must be imposed on banks in each PCA category. It should be noted that these are only guidelines, and the particular measures imposed are based on the specific condition of the bank.
1. PCA I:
The measures imposed in this category include:
- Restrictions on the dividend paid to its shareholders
- Reduction in the exposure limit for loans and advances
- Appoint an independent auditor to review the financial position of the bank
- Increase provisioning for advances
2. PCA II:
Along with all measures imposed on a bank in PCA I, some additional restrictions are imposed if it is put in the PCA-II category.
- Restrictions on opening of branches
- Limitations on the amount that can be paid out as remuneration and salary to its employees
- Limitations on exposure in capital markets
- Close monitoring by RBI of the bank’s activities
3. PCA III:
This is the most extreme form of corrective action and imposed only if the situation of the bank has gone beyond repair.
- Restrictions on Loans and Advances
- Restrictions on Investment
- Restrictions on Management Compensation
- Regulatory Support for Bank Recapitalisation
- Preventive or Corrective action by Reserve Bank
Conclusion
The Prompt Corrective Action (PCA) is an important mechanism which is used by the RBI to protect depositors and preserve the safety and soundness of the banking system in India. It is based on three categories – PCA I, PCA II and PCA III, and each category has different restrictions and measures that are imposed on the bank.
By implementing the PCA system in India, RBI is aiming to ensure the financial stability of banks, protect the interests of depositors and other stakeholders, and bring the banks back to a healthy position. It is important that banks adhere to the norms and fulfill its financial commitments in accordance with the prescribed provisions.
