Leaning against the Global Financial Cycle

We investigate the impact of institutional quality on shielding emerging economies from the global financial cycle. Our findings indicate that countries with a higher rule of law, characterized by superior contract enforcement and more robust protection of property rights, experience a less severe tightening of domestic financial and macroeconomic conditions when faced with adverse global financial shocks. We explain this outcome through a simplified model that incorporates financial frictions, showing how strong institutions and effective governance alleviate collateral constraints and mitigate the effects of global financial pressures on the domestic economy. (JEL E44, E52, F32, F65, K11, K12, P14)