PCA Framework Revised
- November 3, 2021
- Posted by: OptimizeIAS Team
- Category: DPN Topics
PCA Framework Revised
Subject – Economy
Context – PCA framework revised: Asset quality, capital and leverage key
- PCA is a framework under which banks with weak financial metrics are put under watch by the RBI.
- The RBI introduced the PCA framework in 2002 as a structured early-intervention mechanism for banks that become undercapitalised due to poor asset quality, or vulnerable due to loss of profitability.
- It aims to check the problem of Non-Performing Assets (NPAs) in the Indian banking sector.
- The framework was reviewed in 2017 based on the recommendations of the working group of the Financial Stability and Development Council on Resolution Regimes for Financial Institutions in India and the Financial Sector Legislative Reforms Commission.
- 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.
- The PCA framework deems banks as risky if they slip some trigger points – capital to risk weighted assets ratio (CRAR), net NPA, Return on Assets (RoA) and Tier 1 Leverage ratio.
- Certain structured and discretionary actions are initiated in respect of banks hitting such trigger points.
- The PCA framework is applicable only to Scheduled commercial banks and not to co-operative banks and non-banking financial companies (NBFCs).
What are the recent changes?
- The new provisions will be effective from January 1, 2022, an RBI notification said.
- The revised framework excludes return on assets as a parameter which may trigger action under the framework.
- Payments banks and small finance banks (SFBs) have also been removed from the list of lenders where prompt corrective action can be initiated.
- Capital, asset quality and leverage will be the key areas for monitoring in the revised framework.
- Indicators to be tracked for capital, asset quality and leverage would be CRAR/ common equity tier I ratio, net NPA ratio and tier I leverage ratio, respectively, as per the revised framework.
- In governance related actions, the RBI can supersede the board under Section 36ACA of the BR Act, 1949.
- The breach of any risk threshold may result in invocation of the PCA.
- The framework will apply to all banks operating in India, including foreign banks operating through branches or subsidiaries based on breach of risk thresholds of identified indicators.
- A bank will generally be placed under PCA framework based on the audited annual financial results and the ongoing supervisory assessment made by the RBI.
- The RBI may impose PCA on any bank during the course of a year (including migration from one threshold to another) in case the circumstances so warrant.
Exit from PCA
Once a bank is placed under PCA, taking the bank out of PCA Framework and/or withdrawal of restrictions imposed under the PCA Framework will be considered:
- a) if no breaches in risk thresholds in any of the parameters are observed as per four continuous quarterly financial statements, one of which should be Audited Annual Financial Statement (subject to assessment by RBI)
- b) based on Supervisory comfort of the RBI, including an assessment on sustainability of profitability of the bank.
The corrective actions that may be prescribed to the bank that is placed under PCA are:
- Risk Threshold 1 –
- Restriction on dividend distribution/remittance of profits.
- Promoters/Owners/Parent (in the case of foreign banks) to bring in capital
- Risk Threshold 2
- In addition to mandatory actions of Threshold 1
- Restriction on branch expansion; domestic and/or overseas
- Risk Threshold 3
- In addition to mandatory actions of Thresholds 1 & 2.
- Appropriate restrictions on capital expenditure, other than for technological upgradation within Board approved limits.
The common menu for discretionary actions includes special supervisory actions, strategy related, governance-related, capital-related, credit risk related, market risk related, HR-related, profitability related and operations/business-related among others.