We examine whether auditor scrutiny over the allowance for loan losses (ALL) is associated with bank lending decisions. Using PCAOB inspection findings over the ALL to capture increases in auditor scrutiny, we find that auditor scrutiny is associated with a larger ALL for homogeneous loans (i.e., residential mortgages and consumer loans) but not for heterogeneous loans (i.e., commercial real estate; commercial and industrial loans). We next find that auditor scrutiny is associated with a shift in lending away from homogeneous loans, consistent with auditor scrutiny reducing the relative attractiveness of homogeneous loans. These findings suggest that policymakers and audit regulators can indirectly affect bank lending by exercising their authority in ways that affect auditor scrutiny. Data Availability: All data are publicly available from the sources discussed in the paper.

Auditor credibility is important in the banking industry due to the opacity of bank assets and the use of financial statements by external parties to facilitate monitoring. Depositors monitor and discipline bank behavior, but they can also contribute to the spread of shocks from one bank to another. We argue that depositors perceive bank failure as an audit failure, which reduces their assessment of auditor credibility. We document that exposure to failure through the audit firm is associated with lower uninsured deposit growth following the failure, consistent with depositors perceiving failures as a negative signal of auditor credibility. We further document that this association is stronger when depositors perceive connection to failure to reflect a pervasive issue within the audit firm. Collectively, our results suggest that depositors consider accounting signals at other banks in assessing financial reporting credibility.