Prompt Corrective Action

Indian Economy glossary

Also called: PCA, PCA framework · Topic: Banking Regulation, NPAs and Financial Stability · NCERT: Beyond NCERT

Meaning

Prompt Corrective Action (PCA) is an RBI framework that puts automatic restrictions on a weak bank when its capital, asset quality or leverage crosses set warning levels. The restrictions get stricter as the bank gets weaker. It works like an early-warning system that acts before the bank fails.

It matters because it follows fixed rules. The RBI does not wait for a crisis. A bank that breaches a threshold must stop risky growth and repair itself first. This protects depositors and the wider financial system.

Two key ratios it watches:

  • Net NPA ratio = Net NPAs ÷ Net advances × 100
  • Tier 1 leverage ratio = Tier 1 capital ÷ Total exposure (no risk weights)

Explanation

How PCA works

  • Introduced in 2002. The revised framework applies from 1 January 2022.
  • The RBI watches a few indicators for each bank.
  • When a bank crosses a risk threshold, it is placed under PCA:
  • certain restrictions start automatically
  • a worse threshold brings harsher curbs

  • the bank leaves PCA only after its numbers improve

  • The idea is simple. It is cheaper to stop a sick bank from growing than to rescue it after it fails.

The three triggers

  • Capital:
  • CRAR (Capital to Risk-weighted Assets Ratio: the bank's capital as a share of its assets, where each asset is weighted by how risky it is)
  • CET1 (Common Equity Tier 1: the purest capital, mainly shareholders' money and retained profits)

  • Low capital means the bank has only a thin cushion to absorb losses.

  • Asset quality:

  • Net NPA ratio (bad loans left after the bank has set money aside for them (provisions), as a % of net advances)

  • It has three risk thresholds: 6%, 9% and 12%.

  • Leverage:

  • Tier 1 leverage ratio (Tier 1 capital ÷ total exposure, with no risk weights)

  • It catches banks that look safe on risk-weighted numbers but have borrowed too much in total.

  • Not a trigger: profitability (Return on Assets, RoA) is not used in the 2022 framework.

Worked example: which threshold is breached?

  • Bank X has net advances of Rs 10,000 crore and net NPAs of Rs 750 crore.

  • Net NPA ratio = 750 ÷ 10,000 = 7.5% → breaches Risk Threshold 1 (6%).

  • Net NPAs rise to Rs 1,000 crore → 10% → Risk Threshold 2 (9%).

  • Net NPAs rise to Rs 1,300 crore → 13% → Risk Threshold 3 (12%). This brings the harshest curbs.

What the restrictions are

  • As the breached threshold gets worse, the bank faces more of these limits:
  • Dividends: it cannot pay out profits to shareholders. The money stays inside to rebuild capital.
  • Branch expansion: it cannot open new branches.
  • Lending: it must limit new loans, especially risky ones.

  • Management pay: limits on what top managers are paid.

  • The logic:

  • A bank keeps its profits → its capital rebuilds
  • It lends less → fewer new bad loans
  • Its managers feel the pain → they have a reason to fix the bank

In India

  • Who runs it: the Reserve Bank of India (RBI), as the banking supervisor.
  • Timeline: introduced 2002 → revised framework from 1 January 2022.
  • The big PCA episode:
  • 11 public sector banks (PSBs) were under PCA in 2017-18, after the rise in bad loans.

  • All of them exited by September 2022. Central Bank of India was the last to exit.

  • Wider reach: PCA now also applies to NBFCs (non-banking financial companies) and UCBs (urban cooperative banks). Check the latest RBI circular for the current status.

  • Where it sits in the safety net:
  • PCA acts early, while the bank is still alive.
  • If a bank still fails, other tools take over: DICGC deposit insurance (Rs 5 lakh per depositor per bank from 4 February 2020 [2]), and rescue schemes such as the Yes Bank Reconstruction Scheme (March 2020).

Don't confuse with

  • D-SIB capital surcharge: extra CET1 that big, healthy banks must hold because of their size (for example SBI 0.80% from 1 April 2025 [1]). PCA applies to weak banks of any size, based on how badly they are doing.
  • LCR / NSFR: these are Basel III liquidity rules (whether the bank has enough cash for 30 days or 1 year). PCA triggers are capital, net NPA and leverage. Liquidity ratios are not PCA triggers.
  • RBI restrictions / reconstruction (for example PMC Bank 2019, Yes Bank 2020): these come after a bank is already in crisis. Depositor withdrawals may be capped, and DICGC's 90-day interim payment starts from such restrictions. PCA comes earlier. It limits the bank's business, not depositors' withdrawals.
  • Bail-in: creditors, and sometimes depositors, take losses when a bank fails (the FRDI Bill 2017 was withdrawn in 2018 over this). PCA does not cut anyone's claims. It only limits what the bank can do.

Prelims Hooks

  • PCA is an RBI framework. It was introduced in 2002, and the revised framework applies from 1 January 2022.
  • Triggers (2022 framework): CRAR, CET1, net NPA and the Tier 1 leverage ratio. Trap: profitability (RoA) is not a trigger.
  • Net NPA risk thresholds: 6%, 9%, 12%. Crossing a higher threshold brings stricter curbs.
  • Typical curbs: dividends, branch expansion, lending and management pay. Deposit withdrawals are not on the list.
  • 11 PSBs were under PCA in 2017-18. All had exited by September 2022, and Central Bank of India was the last.
  • The Tier 1 leverage ratio uses total exposure without risk weights. CRAR uses risk-weighted assets.

Mains Points

  • Rules, not judgement: PCA acts automatically when a bank crosses a threshold. This avoids delay and political pressure, especially for PSBs. The 11 PSBs of 2017-18 cleaned up their books and all exited by September 2022. This shows early, rule-based action works better than a costly bail-out later, which puts the burden on taxpayers and increases moral hazard.
  • Stability vs growth trade-off:
  • PCA limits lending by weak banks → less credit reaches borrowers
  • Critics said this hurt credit to MSMEs during the slowdown

  • The counter-argument: letting a weak bank keep lending only adds more bad loans, which cost more later

  • Closing regulatory gaps: extending PCA to NBFCs and UCBs brings the same early-warning discipline to shadow banking (lenders outside the banking system) and cooperative banks. PMC Bank (2019) showed that failures in these parts of the system can trap depositors for years.

Related concepts

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Sources

  1. 1RBI Press Release — RBI releases 2024 list of Domestic Systemically Important Banks (13 November 2024)rbi.org.in · tier 1
  2. 2RBI FAQs — Deposit Insurance and Credit Guarantee Corporation (DICGC)rbi.org.in · tier 1