Deposit Insurance and Discretion in Loan Loss Provisioning

This paper studies how a recent, substantial increase in the deposit insurance ceiling impacts discretion in banks’ loan loss provisions (LLP). We compare affected and exogenously unaffected banks using propensity-score-matched difference-in-differences. Affected banks post higher values of discretionary LLP, suggesting an income-reducing or conservative bent. Results are stronger for banks most exposed to the shock, those most significant to the deposit insurer, and those that increase risk most. The conservative use of LLP discretion that we find is consistent with regulatory pressure to recognize losses proactively. We are the first to estimate how deposit insurance impacts bank financial reporting