Spain’s recovery has accelerated on the back of growing corporate profits and faster than expected job growth, causing Citi to raise GDP growth forecasts from 0.2% to 0.9% for 2014 and from 0.8% to 1.1%, providing what could be a roadmap for Portugal to follow.

“The financial position of the corporate sector has improved significantly over the past 4 quarters on the back of strong export-driven revenues and ongoing declines in labour costs, resulting in hefty profit growth,” writes Citi analyst Giada Giani. “This is now translating into stronger business investment expansion and, crucially, into earlier-than-expected net job creation.”

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Spain’s Job creation spurred by rising profits – partially due to job shedding

Ironically, while job creation is a major factor behind Spain’s growing economy, the process started with reduced labor costs – including job shedding in 2012. Layoffs (many of them in the public sector), low wage growth, and increased exports have improved Spanish corporations’ financial position, allowing them to start hiring again. This job creation is expected to increase private consumption, fueling more economic growth.

“Positive employment growth, together with a much reduced fiscal drag, should allow an expansion in 2014 household nominal disposable income for the first time since 2009, even with wage growth remaining very subdued,” Giani writes.

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Spain is by no means out of the woods. Unemployment, though dropping, is still very high (Giani forecasts to 25.6% on average in 2014 and to 24.6% in 2015), and the growth in private consumption is just 0.7%, held back by a record low savings rate, and Giani argues that housing adjustments and a declining workforce will prevent further acceleration. Even so, these numbers are still stronger than had been expected.

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Portugal could follow suit

“Spain’s recovery may be a template for upside growth surprises from nearby Portugal, though a larger fiscal drag in 2014 should delay the Portuguese recovery until 2015,” Giani writes.

While similar dynamics may be in play in neighboring Portugal, Giani is less optimistic about Greece and Italy, which haven’t made as much progress implementing structural reforms as Spain over the last few years. While analysts have gotten used to addressing the Eurozone periphery as a block (somewhat disparagingly called PIGS), if Portugal manages the same positive surprise that Spain has pulled off southern European economies may start to materially diverge.