The macroeconomic effects of debt- and equity-based capital inflows

•Exogenous shocks to capital inflows have short-run macroeconomic effects.•These include increases in output, inflation, stock price and credit growth.•Exogenous shocks to capital inflows are identified using the method of external instruments in a structural VAR.•These effects of exogenous capital flow shocks are almost entirely due to debt flows.•Shocks to equity flows have little short-run macroeconomic effects. This paper considers whether debt-based capital inflows have different effects on many short-run macroeconomic indicators than equity-based capital inflows. Using external instruments in a structural VAR for identification, we estimate the response of domestic variables like the output gap, inflation, the exchange rate, stock prices, credit growth, and interest rates to an exogenous shock to debt- or equity-based capital inflows. An exogenous increase in debt inflows leads to a significant increase in the output gap, inflation, stock prices and credit growth and an appreciation of the exchange rate. An exogenous increase in equity-based capital inflows has almost no effect on the same variables. Thus the short-run macroeconomic effects of exogenous capital inflows are almost entirely due to changes in debt, not equity-based, capital inflows.