Is it possible to use custom script for authentication with PAM?

pam_exec can validate passwords using an external program.

You could write your own PAM module if you want. But the other solution is probably better. Check out a sample PAM module here: http://www.freebsd.org/doc/en/articles/pam/pam-sample-module.html

If this rails info is in a mysql dbase you can configure pam_mysql. There are pam modules for just about everything.

Here's one for ftp that I have with mysql:

session    optional     pam_keyinit.so    force revoke
auth       required pam_listfile.so   item=user sense=allow file=/etc/vsftpd/ftpusers onerr=fail
auth       sufficient   pam_mysql.so      user=virt_admin passwd=PASS host=localhost db=DBNAME table=TABLENAME usercolumn=USERNAMECOL passwdcolumn=PASSCOL crypt=3
auth       required pam_shells.so
auth       include  system-auth
account    sufficient   pam_mysql.so       user=virt_admin passwd=PASS host=localhost db=DBNAME table=TABLENAME usercolumn=USERNAMECOL passwdcolumn=PASSCOL crypt=3
account    include  system-auth
session    include  system-auth
session    required     pam_loginuid.so

You could also run a script that periodically dumps the username:passwords into a file and use the pam_pwdfile. There are a slew of choices.

http://www.kernel.org/pub/linux/libs/pam/modules.html