Bangladesh Bank's PCA framework & commercial banks' preparedness

In a landmark move, Bangladesh Bank (BB) issued a pivotal circular, BRPD Circular No. 17 dated December 05, 2023, unveiling the Prompt Corrective Action (PCA) Framework for commercial banks. The initiative aims to bolster financial stability and instill public confidence in the banking system. This proactive measure requires banks to take corrective actions based on specific indicators, including Capital to Risk-weighted Assets Ratio (CRAR), Tier 1 capital ratio, Common Equity Tier 1 (CET1) ratio, Net Non-Performing Loan (NPL), and Corporate Governance.

MERITS OF BANGLADESH BANK’S PCA FRAMEWORK: The PCA framework serves as a significant step towards ensuring financial stability and enhancing public confidence in the country’s banking system. By addressing issues at an early stage, the framework aims to prevent adverse consequences that might impact both the banking system and the broader economy. It operates based on specified indicators, including the Capital to Risk-weighted Assets Ratio (CRAR), Tier 1 capital ratio, Common Equity Tier 1 (CET1) ratio, Net Non-Performing Loan (NPL), and Corporate Governance.

CATEGORISATION CRITERIA AND TRIGGER POINTS: The framework classifies banks into four categories – Category 1, 2, 3, and 4– based on predefined criteria outlined in Annex 2 of the circular. Trigger points related to capital, net NPL, and other indicators determine a bank’s category. The circular becomes effective from March 31, 2025, with the operationalisation relying on audited financial statements and supervisory assessments submitted by banks to Bangladesh Bank.

CHALLENGES: While the PCA framework introduces essential measures, commercial banks will face challenges in adapting to its stringent requirements. These include potential impacts on liquidity, corporate governance, risk management practices, and market-related issues. Non-compliance with Bangladesh Bank’s directions may lead to invoking the PCA framework, prompting banks to enhance their risk mitigation strategies.

As commercial banks prepare for the PCA framework, effective management of Non-Performing Loans (NPLs) emerges as a critical component. NPLs can significantly impact a bank’s financial health and trigger regulatory intervention. Banks must implement robust NPL recovery plans, reduce loan concentrations, and adhere to prudent lending practices. Liquidity management and business improvement strategies are imperative to navigate the challenges posed by the PCA Framework.

STRATEGIC PREPARATION BY COMMERCIAL BANKS: To align with the PCA Framework and proactively manage NPLs, commercial banks need a multifaceted approach. This includes:

Advanced risk management systems: Implementing cutting-edge predictive analytics and sophisticated risk modeling technologies will be pivotal. Real-time monitoring tools need to be in place for rapid response, setting clear risk thresholds for timely intervention. Regular updates to risk models based on evolving market conditions will ensure adaptability.

Enhanced corporate governance practices: Elevating corporate governance involves strategic moves such as appointing independent directors with diverse perspectives and conducting regular board and committee evaluations. Fostering a culture of compliance and ethical behavior, coupled with whistleblower protection mechanisms, will fortify the ethical fabric. Transparent communication channels between the board and management are vital.

Proactive non-performing loan (NPL) management: Proactively managing NPLs demands a multi-faceted approach. Predictive modeling for early identification, collaboration with external agencies for specialised recovery, and periodic updates to recovery plans based on trends are essential. Employee training programmes for effective NPL management and the establishment of a dedicated recovery task force will expedite the process.

Strategic capital adequacy measures: Ensuring strategic capital adequacy involves diversifying sources, including equity and innovative instruments. Regular reviews and updates to capital restoration plans, coupled with monitoring and controlling exposure to high-risk sectors, will be paramount. Implementing stress testing and exploring strategic partnerships for capital infusion will enhance resilience.

Optimised operational efficiency: Achieving operational efficiency calls for the integration of robotic process automation, regular process assessments, and strategic technology investments. Fostering a culture of continuous improvement and implementing agile methodologies will streamline operations, ensuring a dynamic response to evolving challenges.

Liquidity management excellence: Excellence in liquidity management entails advanced risk models and contingency plans. Regular reviews and stress-testing of liquidity positions, along with diversifying funding sources, will bolster resilience. Collaborating with central banks and financial institutions for liquidity support adds an extra layer of preparedness.

Adaptation to market dynamics: To navigate market dynamics successfully, constant monitoring of trends and agile strategic responses is crucial. Regular scenario analyses, strategic partnerships, and leveraging technology for real-time market intelligence will empower the bank to adapt proactively to changing economic conditions.

Strategic business model reviews: Regular reviews and adaptations of business models are imperative for sustainability. Aligning business strategies with long-term profitability goals and exploring diversification opportunities while managing risks will be the key. Thorough market analyses and continuous industry benchmarking ensure competitiveness.

Employee training and skill enhancement: Investing in employee training on risk management and compliance is pivotal. Skill development programmes for those involved in NPL management, a culture of continuous learning, regular workshops on emerging trends, and mentorship programmes to transfer knowledge will build a highly skilled and adaptable workforce.

Transparent reporting and communication: Transparency in financial reporting practices is paramount. Regular communication with stakeholders about the bank’s financial health, robust channels for addressing concerns, comprehensive disclosures in financial statements, and proactive investor relations activities will build and maintain stakeholder confidence.

These strategies, when implemented with precision, will fortify the bank against challenges and lay the foundation for sustained growth and resilience.

As Bangladesh’s banking sector embraces the transformative PCA framework, commercial banks must view it as an opportunity to enhance resilience and operational efficiency. While challenges exist, strategic preparation, robust risk management, and effective NPL management will position banks to navigate the regulatory landscape successfully. The road ahead demands collaboration, adaptability, and a commitment to ensuring the stability and reliability of the banking sector in Bangladesh.

Md. Touhidul Alam Khan is Additional Managing Director of The Premier Bank PLC and a fellow member of the Institute of Cost & Management Accountants of Bangladesh (ICMAB).
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