I understand that depreciation decreases PP&E on the asset side and retained earnings on the liabilities side. However, I don't understand how these deductions balance? I thought that depreciation applies a tax shield to net income, so NI does not actually decrease by exactly the depreciation expense.
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You are forgetting the cash component. $10 depreciation expense will reduce net income by $6 (assuming a 40% tax rate)
So on the balance sheet
Cash +4 PP&E -10
Retained earnings -6
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