Last week, the RBI said it was all set to revise guidelines entailing Prompt Corrective Action (PCA) plan required to be mandatorily set in motion by ailing banks. The PCA is triggered when banks breach certain regulatory requirements like minimum capital, return on asset and quantum of non-performing assets.
Let’s looks into the various aspects that trigger the need of PCA.
1. What is Prompt Corrective Action?
To ensure that banks don't go bust, RBI has put in place some trigger points to assess, monitor, control and take corrective actions on banks which are weak and troubled. The process or mechanism under which such actions are taken is known as Prompt Corrective Action, or PCA.
2. Why the need for PCA
The 1980s and early 1990s were a period of great stress and turmoil for banks and financial institutions all over the globe. In USA, more than 1,600 commercial and savings banks insured by the Federal Deposit Insurance Corporation (FDIC) were either closed or given financial assistance during this period. The cumulative losses incurred by the failed institutions exceeded US $100 billion. These events led to the search for appropriate supervisory strategies to avoid bank failures as they can have a destabilising effect on the economy.
3. Too big to fail?
Due to the adverse impact on the economy, medium-sized or large banks are rarely closed and the governments try to keep them afloat. Bank rescues and mergers are far more common than outright closures. If banks are not to be allowed to fail, it is essential that corrective action is taken well in time when the bank still has an adequate cushion of capital to minimise the losses.
4. What does the RBI stipulate?
RBI has set trigger points on the basis of CRAR (a metric to measure balance sheet strength), NPA and ROA. Based on each trigger point, the banks have to follow a mandatory action plan. Apart from this, the RBI has discretionary action plans too. The rationale for classifying the rule-based action points into “mandatory“ and “discretionary“ is that some of the actions are essential to restore the financial health of banks while other actions will be taken at the discretion of RBI depending upon the profile of each bank.
5. What will a bank do if PCA is triggered?
Banks are not allowed to renew or access costly deposits or take steps to increase their fee-based income. Banks will also have to launch a special drive to reduce the stock of NPAs and contain a generation of fresh NPAs. They will also not be allowed to enter into new lines of business. RBI will also impose restrictions on the bank
1. What is Prompt Corrective Action?
To ensure that banks don't go bust, RBI has put in place some trigger points to assess, monitor, control and take corrective actions on banks which are weak and troubled. The process or mechanism under which such actions are taken is known as Prompt Corrective Action, or PCA.
2. Why the need for PCA
The 1980s and early 1990s were a period of great stress and turmoil for banks and financial institutions all over the globe. In USA, more than 1,600 commercial and savings banks insured by the Federal Deposit Insurance Corporation (FDIC) were either closed or given financial assistance during this period. The cumulative losses incurred by the failed institutions exceeded US $100 billion. These events led to the search for appropriate supervisory strategies to avoid bank failures as they can have a destabilising effect on the economy.
3. Too big to fail?
Due to the adverse impact on the economy, medium-sized or large banks are rarely closed and the governments try to keep them afloat. Bank rescues and mergers are far more common than outright closures. If banks are not to be allowed to fail, it is essential that corrective action is taken well in time when the bank still has an adequate cushion of capital to minimise the losses.
4. What does the RBI stipulate?
RBI has set trigger points on the basis of CRAR (a metric to measure balance sheet strength), NPA and ROA. Based on each trigger point, the banks have to follow a mandatory action plan. Apart from this, the RBI has discretionary action plans too. The rationale for classifying the rule-based action points into “mandatory“ and “discretionary“ is that some of the actions are essential to restore the financial health of banks while other actions will be taken at the discretion of RBI depending upon the profile of each bank.
5. What will a bank do if PCA is triggered?
Banks are not allowed to renew or access costly deposits or take steps to increase their fee-based income. Banks will also have to launch a special drive to reduce the stock of NPAs and contain a generation of fresh NPAs. They will also not be allowed to enter into new lines of business. RBI will also impose restrictions on the bank
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Articulated By- Divya Pansari
Articulated By- Divya Pansari
(Mail id:-pansari.divya@gmail.com)
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