The Reserve Bank of India recently unveiled a revised supervisory framework known as the Prompt Corrective Action (PCA) Framework for Primary (Urban) Co-operative Banks (UCBs). This new policy, set to come into effect from April 1, 2025, replaces the existing Supervisory Action Framework (SAF). It is a critical move designed to address the financial health of UCBs, aiming to restore their stability and protect depositors interest. Let us discuss the same in detail.

Objective of the PCA framework: The primary objective is to enable timely supervisory intervention in UCBs that are struggling with financial instability. By focusing on capital adequacy, asset quality, and profitability, the framework aims to prompt corrective measures before a bank’s condition deteriorates beyond repair.

The overarching goal is to ensure that UCBs adhere to financial discipline and implement necessary reforms to improve their health and sustainability. This approach ensures that the RBI can take targeted actions based on the severity of financial issues, rather than a one-size-fits-all solution.

Key points of the framework: The framework establishes clear risk thresholds based on three key indicators: capital to risk-weighted assets ratio (CRAR), net non-performing advances (NNPA) ratio, and net profit. UCBs are categorised into different risk levels based on these indicators, with specific actions prescribed for each level. The framework applies to UCBs in Tier 2, Tier 3, and Tier 4 categories.

Tier 1 UCBs, though not immediately covered, will undergo enhanced monitoring. This tiered approach ensures that regulatory actions are proportionate to the level of risk posed by each bank. Depending on the risk threshold breached, the PCA framework mandates a range of corrective actions. For instance, UCBs facing moderate risks (Risk Threshold 1) may need to raise capital and restrict dividend payments, while those facing severe risks (Risk Threshold 3) may face restrictions on deposit expansion and even potential merger options.

The framework emphasises continuous monitoring and reporting, requiring UCBs to regularly update their financial health status. This ongoing supervision helps in early detection of potential issues and ensures that corrective measures are implemented promptly. While the framework provides a structured approach to intervention, it also allows the RBI discretion to impose additional actions if warranted.

This flexibility ensures that the RBI can address emerging risks and governance issues that may not be covered explicitly by the framework. To exit the PCA framework, a UCB must demonstrate sustained improvement in key financial metrics over a specified period. This includes no breaches of risk thresholds in four continuous quarterly financial statements and overall supervisory comfort with the bank’s financial health.

A step towards financial stability: The introduction of the PCA framework marks a significant step towards enhancing the stability and reliability of UCBs. By focusing on capital, asset quality, and profitability, the framework aims to address the root causes of financial distress and promote sustainable growth within the sector. Its tiered approach and detailed corrective actions provide a comprehensive mechanism for monitoring and intervention, ensuring that UCBs can effectively manage financial challenges.

As we look towards the implementation of this framework in 2025, it is crucial for UCBs to align their operations with the new regulatory requirements. The RBI’s proactive stance in updating the supervisory framework reinforces its commitment to maintaining financial stability and protecting the interests of depositors.

Ultimately, the PCA Framework represents a crucial development in the regulatory landscape for UCBs, fostering a more resilient and responsive banking environment. As the framework comes into effect, it will be imperative for UCBs, regulators, and stakeholders to work collaboratively to ensure its successful implementation and achieve the desired outcomes for the financial system.

Saravanan is a professor of finance and accounting at IIM Tiruchirappalli, Padmavathy is AGM, National Housing Bank, Delhi, and Valiachi is research staff at IIM Tiruchirappalli. Views are personal