Institutional quality and corporate financing decisions around the world

•This paper investigates the influence of institutional quality on financing decisions of firms.•Firms in countries with higher institutional quality rely heavily on long-term funds.•They rely heavily on long-term debt and equity in financing capital expenditures.•They rely heavily on cash reserves in financing working-assets investments. We investigate the influence of the recent comprehensive institutional quality dimensions of Karolyi (2015), such as market capacity, operational efficiency, foreign accessibility, corporate transparency, legal protection, and political stability, on financing decisions of firms across 56 countries between 2000 and 2015. We find that stronger institutional quality or lower fundamental risks in a country ease firms' access to long-term debt, and equity financing. We attribute our results to institutional environments influencing financing decisions by shaping the severity of market frictions, such as agency conflicts and information asymmetry, and transaction costs. As a result, we conclude that any improvement in a country's institutional environment will boost firms' access to long-term financing, and thus longer-term investments that promote countries' economic growth will be more feasible. Our findings are robust to potential endogeneity issues.